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Andrew Lo

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74
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2017-04-21
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2017-04-21
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  1. “Well, you know, there was actually a lot of diversity. There were some hedge funds that did spectacularly well out of the crisis. That's for sure.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  2. “And the third reason is that if you look at the volatility of markets, it's lower now than it's been in quite a long time. And hedge funds really make money on volatility. They actually look for high volatility to be able to earn their returns”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  3. “Am I oversimplified? You would think so, but that's the second factor that's actually hurting hedge fund returns. It's that leverage is way down, even though risk-free rate is lower, the amount of leverage that hedge funds are afforded is much lower now because people are less risk-seeking and that we know that policies like the Fed's changes in leverage restrictions among banks have made it more difficult for hedge funds to get the same kind of leverage that they did in the early 2000s.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  4. “Yeah, you know, there are three factors that are going on in the hedge fund industry that have really challenged its performance. The first is that the risk-free rate is actually much lower now than before. And so hedge fund industries relied to some degree on the risk free rate in order to be able to add to its expected returns.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  5. “You know, I'm now more convinced than ever that hedge funds play an important role and that we can learn a lot by monitoring the industry. But I think that the hedge fund industry itself is undergoing some pretty dramatic changes. Both because hedge funds have become more sophisticated technologically, but also because competition has actually winnowed the field. A lot of hedge funds disappointed in their returns over the last five to ten years. And so the hedge fund industry has seen a lot of consolidation. So the industry today is very different than what it was a decade ago.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  6. “Exactly. But the hedge fund industry showed some very important stress fractures that had we been listening, had we really spent time watching what was going on in the hedge fund world, we would have seen all sorts of early warning signs. And in fact, a number of us did write about them back in 2005 and 2006. And I think that's one of the reasons why the hedge fund industry is such an important part of the financial ecosystem.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  7. “No, no, you're right that it's really hard to attribute cause to any one player in the system. I think we all contributed to the financial crisis in one form or another. It's really the complexity of the system and the fact that we have these nonlinearities that people really weren't focusing on that ultimately caused this huge debacle.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  8. “While it seems like a small number compared to, say, Vanguard, Vanguard just passed their $4 trillion mark, right? 4.2. Right. So the entire hedge fund industry is only $3 trillion, but that number is misleading because hedge funds can use leverage, if they can go short, and they can trade at much higher frequencies than, say, mutual funds. So that $3 trillion goes a long, long way in terms of having market impact.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  9. “Well, it's because of their unregulated nature. Hedge funds are allowed to do anything and everything in order to make returns for their investors. And the fact that they are unregulated is actually really important. It's because it allows us to see what all of the various different dynamics are in financial markets unfettered by regulation of any sort.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  10. “Well, you know, that was really meant to represent the kind of skepticism that a lot of people have for hedge funds. But I think that hedge funds play an incredibly important role in the financial ecosystem. They're the tip of the spear in terms of taking advantage of profit opportunities as they emerge, but they're also the canary in the coal mine that get hit first when financial distress starts to develop.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  11. “Well, if you take a look at how people make decisions, it turns out that from the neurophysiological perspective, there are multiple competing components of the brain that are at work. For long-term decisions, where we have the luxury of thinking carefully and deliberating on various different choices, for example, asset allocation or retirement planning, we can make supremely rational, mathematically precise decisions. But then crisis hits, events happen, and we react. And in those cases, we're reacting emotionally, not necessarily logically. And it's the emotional components of the brain, which are far older than the ability to do mathematics that kick in. And when they kick in, they really overwhelm us. We are overwhelmed by our emotional centers. And when that happens, the decisions that we make are not particularly good when it comes to our financial health.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  12. “Literature that got me to start thinking a little bit more broadly that maybe the mathematical equations that we use in modern finance is not the be all and the end all of how you think about financial markets.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  13. “Well, so I was really looking at the technical analysis literature that got me to start thinking a little bit more broadly. For those of the listeners who don't know, technical analysis is really a somewhat disreputable field of study that academics often poo-poo, but which I think actually has quite a lot of value. And it's the idea that you can use geometric patterns in price data to be able to make forecasts and to try to understand how markets move. The technical analysts from the 1940s and 50s really understood that markets were driven not just by supply and demand, but also by the nature of emotion, by fear and greed. And so they would actually come up with patterns, trends, reversals, and other kinds of tools that for those days where they didn't have computers and fancy technology actually allowed them to make pretty useful forecasts. And it was reading that.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  14. “Well, it's actually longer. It really started in 1986 when I started looking at the data for the random walk hypothesis. That's a particular version of efficient markets which says that stock prices follow random walks. You can't predict where you're going to be tomorrow based upon where you are today. At least that was the theory. And when my co-author, Craig McKinley and I started looking at the data, no matter which way we sliced it, we couldn't get the random walk to work. In other words, the data are not consistent with the random walk. There are predictabilities.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  15. “Well, you know, I came about it, I guess, really being dragged, kicking and screaming through various different disciplines. So the book is really a travelogue of my intellectual journey from a die-hard devotee of efficient markets and rational expectations into the realm of first psychology and behavioral finance and then to neuroscience and how people really make decisions and then to the evolutionary biology of how our brain evolved and then ultimately to the ecology of all of the various different dynamics of multiple competing species. So it wasn't that I was looking for these other disciplines but they ultimately ended up becoming really important for understanding the very simple idea that you've got to explain these facts using as whatever tools you have at your disposal.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  16. “Well, that's definitely a problem. And I think that a number of economists have written about it. And I believe that there is some kind of a reaction or a backlash to the mathematization of economics. There's no doubt that rigor has a role to play in our field. But someone once said that along with rigor usually goes mortise. So I think we have to be very careful about how we use mathematics.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  17. “There's no doubt that the economics profession has been indelibly altered by the events of the past year. Chase, chastened, absolutely, humbled. We've had many individuals who have stated publicly that they felt economics, particularly macroeconomics.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  18. “Well, you know, that's part of their responsibility, but their focus is on the banking system. And as we know from the financial crisis, it was the shadow banking system that actually grew very, very quickly and that they don't actually have jurisdiction. The other thing is that the Fed has a dual responsibility. They're actually also supposed to be encouraging economic growth with their monetary policies. And so it's very difficult when you've got this dual mission to be able to focus single-mindedly on preventing financial crises from occurring.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  19. “In policies to try to do anything about it. And certainly the U.S. Treasury and the Fed were not in a position to make very strong changes in policy because there was no official word like the National Weather Service to tell you that a hurricane was coming. We need to have something like a National Weather Service for financial crises.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  20. “Well, you know, I'm not sure we did miss it. For example, in 2005, Bob Schuller Ragurajan and myself, all three of us wrote papers that described stress fractures in the financial system. Bob Schiller talked a bit about the real estate market and how that was going to be another kind of irrational exuberance, a bubble that was about to burst. In 2005, Raghu Rajahan talked about the banking system becoming overextended and developing these kinds of risks of financial crisis. And some of my students and I wrote about the fact that the hedge fund industry was also heading for another debacle very much along the lines of what happened in 1998. And so there was evidence in the data and all three of us wrote papers and gave talks about it. But the fact is that unless you've got a very strong notion from the entire financial profession that we're headed to a crisis, it's very difficult to engage.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  21. “I think they do get unfairly criticized for certain things. It was once said that economists predict five out of the last three recessions. And of course, you know, we don't have a perfect track record or prediction, but neither do weather forecasters. The nature of the task is much more challenging. And so I think that people have to understand the difficulty in making these kinds of economic predictions. We're getting better all the time, but it's still not purely a predictive science. We need to actually take into account the art of economic forecasts.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  22. “Well, you know, economics is about a much more complicated subject than physics. And I think that's the first point that we have to grapple with. I think it was the physicist Richard Feynman who speaking at a Caltech graduation said, imagine how much harder physics would be if electrons had feelings. I think that really captures it. We're dealing with people that have feelings and they react emotionally sometimes as opposed to logically and rationally. And so the laws of physics don't really apply to human interactions in the same way that they apply to particles in a gravitational field. And it's very tempting for us to use the mathematics and the mantle of physicists, but the fact is that we're dealing with a very different object.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  23. “Exactly. And you know, panic is actually a very important evolutionary adaptation. Fear and greed are a lot older than the ability to solve differential equations. And so when we start becoming threatened, we will react emotionally. And for physical threats, that's actually a great response. But for financial threats, it doesn't work out nearly as well.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source

  24. “And what he developed was this idea that rationality actually requires a certain degree of emotion. In other words, when you take a look at patients that have had brain surgeries that have removed the emotional part of the brain, they end up acting in a very irrational way because they have no way of balancing the various different demands on their time. You know, when we think about showing up to work on time or meeting a deadline, emotion actually plays an important role in those kinds of behaviors. So with the proper balance of emotion and logical deliberation, we end up seeming quite rational. But when that balance goes askew, when we have too much or too little emotion, we end up making mistakes. And that's very much along the same lines of how investors actually behave.”

    2017-04-21 · Masters in Business · Interview With Andrew Lo: Masters in Business (Audio) · IDENTIFIED FROM THE TRANSCRIPT · source