Gone Camping – Robots, Fraud and Peer to Peer Lending

Most of the posts in this series have been aimed at making you more informed about investment in general. And I take a rather different approach than just putting some charts and tables in front of you that all contain rosy examples.

Before you even start investing I want you to understand a bit more about the risks involved in decision making and how the economic world is wired. And I draw in part from my own experience and knowledge, but also from my own ongoing research which involves a lot of reading.

But I also make a point of attending seminars where I think I can learn something. And that normally means ones where leading investment groups and fund managers also attend hoping to do the same – but where I very rarely meet another financial adviser.

So a few weeks ago I headed off to London to a large tent in the grounds of the HAC (Honorable Artillery Company) to attend the first ‘Camp Alphaville’, hosted by Financial Times Live. Alphaville is, in the FT’s own words, their own ‘irreverent financial blog’ and is part of the online edition of the FT.

(The ‘alpha’ part of the name is what we are supposed to paying fund managers for – investment returns above that expected for the amount of risk taken. Some might call it skill, others luck.)

Large tents sometimes come with clowns inside and proceedings got off to an inauspicious start as two members of the audience started swinging at each other. Why? I have no idea. I initially thought it was a pre-arranged side-show, but no, they had taken a genuine dislike to each other. They clearly hadn’t read the promotional slogan for the event of ‘Peace. Love. Higher Returns’.

After their early eviction, we were left with a variety of investors, strategists, bloggers and policy makers discussing a variety of topics across one main stage and four inflatable ‘igloos’. Most of the speakers were in person, but some appeared in the form of an AwaBot telepresence robot – which is basically a tablet with front facing camera on a movable base, which is controlled by the person on the tablet screen.

What is the collective noun for a group of AwaBots?
What is the collective noun for a group of AwaBots?

I have to say, I think this form of remote control skype on wheels will take a bit of getting used to. One of the robot controllers explained later that one lady, thinking that the screen was just a TV on a stand, used its reflection to adjust her bra – he chose not to say anything and look away. And what if you were enjoying a quiet drink in a bar, when one of these rolls up controlled by your better half and asking when you will be home?

While I may have had some reservations about the AwaBots, they did fit with one of the main themes of the event – how robots could disrupt the labour force. Other leading subjects were China and its outlook, how markets have gone nuts and the rise of digital currencies. And on this last topic, which is very interesting, at times mind-melting and largely about Bitcoin, I’d note that we were asked to bring good old fashioned cash to pay for food and drinks.

My main focus, however, was elsewhere. I was intent on meeting two gentleman from different companies that have had considerable success at spotting fraud at listed companies. I also wanted to attend a debate on peer to peer lending. And I’m pleased to say I managed all three.

Why the interest in fraud? It’s simple, you’ll learn more from those who spot when things go wrong and there are simple lessons to be learned from both Carson Block of Muddy Waters fame and John Hempton of Bronte Capital. Spotting fraud can be a long drawn out and difficult process and there’s no question in my mind they are creating genuine alpha for their investors.

They are very different characters, but they share an understanding to always question the apparent hard facts in front of them, ask themselves constantly are we wrong in some way and perhaps the most glaring point for me, they are used to getting their hands dirty – something one can only hope the economist community does more of.

When I say getting their hands dirty, I mean what you might imagine to be rather simple stuff like tracking the activities of known fraudsters to see where they surface next. Checking the authenticity of published documents or perhaps the credibility of auditors. Looking at the meta-data on published reports to see if dates have been changed and even hiring students to count lorries entering and leaving factories to see if a company really is doing the amount of business they say they are.

Of course, this takes time and costs money and doesn’t fit with an investing world dominated by spreadsheets and a blind trust in theoretical models. And that is why they have an ‘edge’.

But it’s not just about looking for fraud, the same approach is used when investing in companies that others might hate. In an ironic twist John Hempton’s fund has invested in a US drink and food supplement company called Herbalife, which has itself been accused of being a pyramid scheme by a leading hedge fund manager. This is an ongoing situation and you can read about it at length in John Hempton’s blog, which is necessarily a bit technical.

He told me this stock has been his best performer in the past year and as he explains in his blog his edge is that he has made the effort to visit Herbalife distributers and the weight loss classes they hold in several countries and has concluded the business is largely real. He may yet be wrong, legislators in the States may take a different view, but he has been very thorough and well rewarded to date.

Finally, I headed for the debate on peer to peer lending. There are plans by the Treasury to make these direct loans between peers (eg. consumer to consumer), as an eligible ISA investment. And I did get into a bit of a discussion about risk with a board member of one the longest established firms, Zopa. We were a little bit at crossed purposes, but as someone who used to deal with the most complicated forms of corporate debt I was trying to learn as much as I could about how they assessed the risk of their loans. But, I’ll leave much of what I learned for next week.

Please remember:

  • past performance is no guide or guarantee of future returns;
  • the value of stock market investments can rise and fall over time,  so it is quite possible to get back less than what you put in, depending upon timing



It’s a Small World – Part Two, ‘What’s the chance of that happening?’

chanceIn the first of these two blog posts, I highlighted how good and bad economic events are much more likely than you might expect. And this is partly due to the way the economic world is wired. There is a ‘network effect’ that also applies to many other complicated systems, such as our bodies.

I also described how some students in the States had developed a game that demonstrates this effect called the ‘Bacon Game’. The game is based upon linking actors to Kevin Bacon, either through appearing in the same movie as him or having acted with someone who has….and so on. And what we discover is that the acting universe is far more connected to the star of such movie greats as ‘Tremors’, than we would think if they only knew each other randomly.

But this second blog is about how, even if things did just happen randomly in the same way as tossing a coin or rolling a dice, unlikely events still happen more often than we expect. Or to put it another way, when the world gets as big and complicated as it is, coincidences are very likely even though we might imagine that the chances of them happening are extremely small.

Now I am not attempting to rubbish any beliefs you might have about ideas such as fate, for example. I am merely demonstrating that we ought to consider how likely coincidences are before we assign them any special spiritual or paranormal significance.

And in investing terms, it means that yours truly is especially sceptical when looking at a presentation from an expensive fund manager showing magnificent potential returns for my clients. After checking whether I think the data is real, I then need to consider whether they’ve just been lucky. Maybe they have just been ‘fooled by randomness’ as Nassim Taleb put it in the book of the same name.

One of the best examples used to demonstrate how more likely coincidences are than we expect is this question – What is the chance that two children in the same class at school have the same birthday? Statisticians know this question as the ‘birthday problem’ or ‘birthday paradox’.

And the answer?

Well, assume there are 30 kids in a class and that birthdays are evenly spread over the year. Given there are 365 days in a year, the answer would seem pretty unlikely. But, the mistake we make is that we tend to think in terms of any two children sharing a specific date such as the 12th November, rather than the chance of sharing any date in the year.

The answer is 50% – actually, it’s a little over a half as you only need a class of 23 to get a chance of 50%. Or to put it differently, if we had two classes of children, we would expect one of the classes to have two children sharing a birthday.

There are several ways of calculating this theoretically and if you contact me I can send the most straightforward one to you. But, we can also get the same answer using a mathematical technique of trial and error called a ‘Monte Carlo simulation’.

If you create a column of 23 random dates in an excel spreadsheet and keep hitting the F9 key to recalculate those random dates, you’ll find that half the time two of those 23 dates will match. This is a very simple example of this technique and I use it far more extensively when making financial plans.

Of course, the other option is to ask your own children or remember your own school days. And at my school I was that kid in my maths class that shared their birthday with a girl in the same class. I don’t think my teacher appreciated the statistical likelihood of that outcome – he was just demonstrating data selection techniques and had come up with his own early version of a dating service using holes punched in cards.

Alas, while his experiment was a perfect example of the’ birthday problem’, as an exercise in matchmaking it didn’t work. We’d have been a pretty odd couple. The girl in question was six inches taller than me at the time and went on to become a national karate champion – I was more into art.

I did, however, marry the girl in the next classroom whose birthday is two days after mine. And here we are together over 30 years later – what’s the chance of that happening?

Apparently, a little more that I’d give Sheldon and Amy in the ‘Big Bang Theory’.

Please remember:

  • past performance is no guide or guarantee of future returns;
  • the value of stock market investments can rise and fall over time,  so it is quite possible to get back less than what you put in, depending upon timing