The Misbehavior of Markets: A Fractal View of Risk, Ruin, and Reward

by Mandelbrot, Benoit B.; Hudson, Richard L.

• ISBN13: 9780465043552
• ISBN10: 0465043550
• Format: Hardcover
• Copyright: 2004-08-01
• Publisher: Perseus Books Group

Summary

Benoit B. Mandelbrot, one of the century's most influential mathematicians, is world-famous for making mathematical sense of a fact everybody knows but that geometers from Euclid on down had never assimilated: Clouds are not round, mountains are not cones, coastlines are not smooth. To these classic lines we can now add another example: Markets are not the safe bet your broker may claim. In his first book for a general audience, Mandelbrot, with co-author Richard L. Hudson, shows how the dominant way of thinking about the behavior of markets-a set of mathematical assumptions a century old and still learned by every MBA and financier in the world-simply does not work. As he did for the physical world in his classicThe Fractal Geometry of Nature, Mandelbrot here uses fractal geometry to propose a new, more accurate way of describing market behavior. The complex gyrations of IBM's stock price and the dollar-euro exchange rate can now be reduced to straightforward formulae that yield a far better model of how risky they are. With his fractal tools, Mandelbrot has gotten to the bottom of how financial markets really work, and in doing so, he describes the volatile, dangerous (and strangely beautiful) properties that financial experts have never before accounted for. The result is no less than the foundation for a new science of finance.

Author Biography

Benoit B. Mandelbrot is Sterling Professor of Mathematical Sciences at Yale University and a Fellow Emeritus at IBM's Thomas J. Watson Laboratory. He is the inventor of fractal geometry, whose most famous example, the Mandelbrot Set, has been replicated on millions of posters, T-shirts, and record albums. He was a leading figure in James Gleick's Chaos and has received the Wolf Prize in Physics, the Japan Prize in science and technology, and awards from the U.S. National Academy of Sciences, the IEEE, and numerous universities in the U.S. and abroad. His books include Fractals: Form, Chance and Dimension, which was later expanded into the classic The Fractal Geometry of Nature, which has sold more than 200,000 copies. This is his first book for lay readers on finance, a subject he has studied since the 1960s. He lives in Scarsdale, New York. Richard L. Hudson was the managing editor of the Wall Street Journal's European edition for six years, and a Journal reporter and editor for twenty-five years. He is a 1978 graduate of Harvard University and a 1991 Knight Fellow of MIT. He lives in Brussels, Belgium.

Table of Contents

Abstract	v
Acknowledgments	xiii
Prelude: Introducing a Maverick in Science	xv
Benoit Mandelbrot, the `father" of fractals, has made a career of going against the prevailing fashions in science.
Part I. The Old Way
Chapter I Risk, Ruin, and Reward	3	(22)
"Modern" financial theory is founded on a few, shaky myths that lead us to underestimate the real risk of financial markets.
Chapter II By the Toss of a Coin or the Flight of an Arrow?	25	(18)
How the operations of mere chance can be used to study a financial market.
Chapter III Bachelier and His Legacy	43	(16)
The study of financial theory began a century ago with a brilliant but undervalued French mathematician, Louis Bachelier.
Chapter IV The House of Modern Finance	59	(20)
How the edifice of modern financial theory-valuing assets, building portfolios and assessing risk-was erected on Bacheiier's work.
Chapter V The Case Against the Modern Theory of Finance	79	(32)
Orthodox financial theory is riddled with false assumptions and wrong results. A summary of the evidence against it.
Pictorial Essay: Images of the Abnormal	88	(23)
Part II. The New Way
Chapter VI Turbulent Markets: A Preview	111	(12)
Financial markets are turbulent-like the wind or the flood. An introduction to the fractal view of finance.
Chapter VII Studies in Roughness: A Fractal Primer	123	(24)
How is a stock-price chart like the leaves of a fern? A survey of fractul geometry.
Pictorial Essay: A Fractal Gallery	132	(15)
Chapter VIII The Mystery of Cotton	147	(26)
The first clue to the fractal view of finance came in a study of cotton by Mandelbrot. An account of his scientific journey.
Chapter IX Long Memory, from the Nile to the Marketplace	173	(24)
The second clue to fractal finance came from lifelong study of the Nile River by an English hydrologist, H.E. Hurst.
Chapter X Noah, Joseph, and Market Bubbles	197	(10)
The two critical features of financial markets are wild price swings and long-term dependence-the Noah Effect and the Joseph Effect.
Chapter XI The Multifractal Nature of Trading Time	207	(18)
In financial markets, time speeds up and slows down-as described in the multifractal model of markets.
Part III. The Way Ahead
Chapter XII Ten Heresies of Finance	225	(28)
How do financial markets really work? A list of key insights provided by the fractal view of finance.
Chapter XIII In the Lab	253	(24)
So how can the study of fractals change finance? A program for future research.
Notes	277	(26)
Bibliography	303	(15)
Index	318