These Markets Are for the Boids
Investors underperform because they fail to realize that markets are more simulation than reality.
In my last essay, I was reflecting on the nature of wealth and its relationship to life following a two-day intensive at Polyface Farms. Shortly after I wrote that piece, I heard Catherine Austin Fitts put it even more succinctly. She said, “All wealth comes from life.”
When I think about the times in which I truly experience wealth, they all have to do with life in one form or another – God, family, friends, good creative work with like-minded colleagues, nature, animals, food, and shelter.
All wealth comes ultimately from life. Yes. I believe that now, though I didn’t always believe it.
While working on my PhD, I spent considerable time in a field called artificial life, or A-Life as it’s known to its practitioners. (Don’t worry, it sounds scarier than it actually is.)
I was working with computers to find a set of rules for governing a community of automatons (i.e., computer critters) that would produce emergent behaviors. I would manipulate conditions in the “system” like reproductive rates, metabolic taxes, available resources, and competition levels. Then I would study the impact of these changes on the behaviors of my “populations” in the hopes of finding something interesting and surprising – i.e., something emergent.
The first real example of emergent behavior from computer algorithms came in 1986 when Craig Reynolds managed to simulate the flocking behavior of birds using just a few rules. He called his computerized birds “Boids.” (Craig was in Cambridge, MA, at the time, and I think that’s just how you pronounce “birds” in Massachusetts.)
From the Wikipedia page on Boids:
The rules applied in the simplest Boids world are as follows:
separation: steer to avoid crowding local flockmates
alignment: steer towards the average heading of local flockmates
cohesion: steer to move towards the average position (center of mass) of local flockmates
That’s it. Just three simple rules, and yet these simple rules produce an amazingly realistic simulation of bird flocking. To see it in action, check out this 4-minute video. (You really should watch it for at least a minute.)
The computer animation company that Craig was working for at the time, Symbolics, Inc., used the technology to produce this short animation.
Don’t get me wrong, I think that Boids are awesome. They still fascinate me to this day, and I’m full of admiration for how Craig was able to take a complex phenomenon and use his own intelligence, distill it down to three simple organizing principles, and then replicate it on a computer.
Where I’ve parted ways with my former A-Life colleagues, however, is that I no longer entertain the notion that our simulations of living things have anything to do with life itself.
You see, there’s a real belief among the A-Life practitioners that someday A-Life research will unlock the algorithmic secrets of life and prove that life itself is no more than a collection of algorithms.
A-Lifers believe that life is actually just a more computationally complex version of artificial life, and that one day, when our computers are fast enough and sufficiently networked, the lines between artificial life and real life will forever be blurred.
Yes, I’m sorry to tell you that in the throes of my PhD studies, I really couldn’t tell you if Boids were alive or not. I couldn’t make a clear distinction between Boids and actual birds. The life-like behavior of Boids seemed like a meaningful step on the path to life itself. Life was just a matter of degrees. (That should give anyone pause who is considering a university education today.)
Hope springs eternal, I guess, but it’s telling that 36 years after the discovery of Craig’s now famous flocking rules, the International Society for Artificial Life is still leaning heavily on this initial legacy.
Below, for example, is the current cover of its now MIT-based journal. It appears that they still don’t have much new to brag about nearly four decades later. But, hey, we don’t need to let that stop us from building an entire cottage academic discipline around it.
I mention all of this because I think the story of Boids has something to teach us about our world – that we are constantly mistaking simulations of reality for reality itself.
Yes, we can chuckle at my own youthful inability to distinguish between Boids and birds, but when we really stop and think about it, I’d say that much of our modern lives are being lived in simulations that we are failing to distinguish from reality – and that’s particularly true in markets today.
A simple but dramatic case in point is the recent rally and collapse in BBBY. It’s kind of shocking to even have to point this out, but BBBY is not actually Bed Bath & Beyond. BBBY is a symbol, and the time-price history associated with BBBY is a collective simulation of the anticipated future value of the actual business Bed Bath & Beyond.
The media tells us that “Bed Bath & Beyond soared” and “Bed Bath & Beyond crashed,” but that doesn’t make it true. Nothing changed at Bed Bath & Beyond during the two weeks between August 9 and August 23, and yet BBBY made a round trip from $8.50, up to $30, and back to $8.50 per share.
It’s the sad state of our world today that we are largely incapable of distinguishing between artifice and reality at even the simplest of levels (thank you, academia). We constantly fail to distinguish between a symbol and what it symbolizes. We constantly fail to distinguish between simulations and reality.
On August 17, the day BBBY hit $30, there were straight-faced financial journalists on Bloomberg TV interviewing the founder of the Wall Street Bets subreddit about BBBY and asking him sober questions about the durability of this new move in Bed Bath & Beyond.
Are you kidding me? I kept waiting for a wink from these journalists to let the rest of us know they were in on the joke, but it never came.
Besides the simple embarrassment of failing to distinguish between a symbol and its referent, there is the more serious problem that when we come to believe that a simulation of reality is reality itself, we open ourselves up to the risk of being easily manipulated by those who have the ability to manipulate the simulation.
This Forbes article visually illustrates my point powerfully:
Yeah, thanks but no thanks.
Seriously, whoever took this photo should get a Pulitzer Prize. It’s THE photo of the 21st Century as far as I’m concerned.
Think about our BBBY example in light of this photo. There absolutely were market participants in the BBBY story who were not wearing virtual reality goggles. We can debate whether, for example, Ryan Cohen was intentionally orchestrating an illusion or just profiting from an illusion, but an illusion it was, nonetheless, and Cohen knew it very well. Cohen is reported to have netted $68.1 million on BBBY in seven months.
My personal belief is that most novice investors chronically underperform because they fail to realize that, for most of us, markets are more simulation than reality.
Most of us will never interact with the actual companies we invest in. We’ll just interact with their symbols, the stories told about them, and the capital that flows in and out of them. Daniel Loeb, one of the most successful hedge fund managers of all time, put it nicely when he said, “To be an investor is to live constantly at the intersection of story and uncertainty."
Once we acknowledge that we’re operating in a simulation, we’ll stop thinking that there must be some real reason why BBBY is surging or crashing hundreds of percent in a week. Once we’re freed from the illusion that markets should be tethered to the laws of the real world, we’ll start to see how markets really work.
Frankly, I’m not thrilled with the reality of how markets work today. I’d rather they be more closely tethered to underlying fundamentals, but that’s not what we’ve got.
Whether it’s Ryan Cohen pumping and dumping BBBY or the Federal Reserve providing us all with their “forward guidance,” markets are driven much more by stories today than they ever have been. For the past week markets have done nothing but fret about what Chairman Powell is going to say at tomorrow’s meeting in Jackson Hole.
Everything I’m doing in finance today is about helping people better understand what markets have become and how to navigate them.
As most of you know by now, I launched my new course, 7 Principles of Successful Investing on Udemy recently. It’s not like any other investing course because it’s all about changing your point of view on what it means to be a successful investor.
Just because I don’t care for how markets work today, however, doesn’t mean that I’m going to stick my head in the sand and pretend it isn’t happening. We have to understand how markets work and we have to act in an ethical way in the markets – even if others don’t.
My new course offers a framework for accomplishing both of these goals. It also integrates with and is complemented by our rapidly evolving RiskSmith app, which gives you the tools you need to be successful in a simulated world. (Hint: the tools you need for decision making in a simulated world are not the same tools you need for business decision making in the real world.)
Taken together, I believe that these two resources are game changers for independent investors and traders, and I’m proud that we’ve been able to offer them for literally next to nothing – at least for now.
My youngest son loves to go outside and look for birds. I shared with him a little bit about Boids recently and then asked him if he thought Boids might be “a little bit alive?” He quickly said, “No,” with a slight snort of derision. He’s off to a good start.
I still spend a lot of my own time immersed in markets and technology, but my ability to work within them is greatly enhanced by the fact that I know I’m looking at Boids, not birds.
And when I need to step away from the screens and recover, which we all need to do regularly, I head out into the woods with my son and the birds.
Life is good,
Dr. Richard Smith
We are not victims of our situation. We are the architects of it.
Simon Sinek, Best-Selling Author