OMO, Mnuchin and Ludic Fallacy

A few days back we had taken up the cause of forecasting especially in the context of election predictions in the US. The topic was chosen because it has relevance which is immediate and its impact will also be significant. We discussed the concept with the help of Nadal’s win in the French Open which was a highly probable event. We also introduced that these probability estimates can come from models which the practitioners have created or it can be derived from the betting market if one exists. It was also noted that the these two approaches don’t exist in vacuum and feed on each other. The bettors get swayed by the model predictions and vice versa.

Today we will refine that discussion to take up an argument which was introduced by NNT in his book The Black Swan. He argues that clothing real world probabilities in mathematical numbers is an exercise in vanity and is done more to counter the human mind’s inability to appreciate abstract positions. Taleb calls this the Ludic fallacy. The word Ludic owes its origin to the word Ludus which means games in Latin (dice games example Ludo). The game set up has fixed rules and set probabilities. In Ludo we know pre facto that the dice is not loaded and it has six sides hence it is easy to say that the probability of rolling a six is one in six. In the real world we are mostly ignorant about the number of sides in the dice and whether it is a loaded one or not. The point being that the exactness conveyed by a 28% win probability is just another way of saying that it is a more probable event and nothing else. Our readers hence would do well to see these “exact” numbers for what they are.

Coming back from our fill of philosophy to the immediate market concerns. The US stimulus discussion continues with the latest spoke in the wheel being the Treasury Secretary Mnuchin’s statement that he doesn’t see any chance of a deal being reached pre election. The news that there is again a spurt in the number of cases in Europe leading to fresh restrictions on people’s mobility is going to impact the markets. In France, President Macron announced night curfews for four weeks in Paris and other major cities. Europe is currently clocking a rate of 100k new cases daily compared to 50k in USA.

US stock indexes ended lower yesterday with the Hang Seng opening in red today. The Dollar Index remained strong around 93.40. US 10 year yield trades at 0.72. The pound sterling again showed an uptick to trade at 1.3010. Some attribute it to the progress in the Brexit talks. This story we have heard many a time before so we remain sceptical. Gold trades at 1900$/oz. Brent Crude trades at 43.40 $/bbl.

Domestically, we will have the OMO auctions for 20k Cr INR today. Bond yields have been trading in a narrow range ahead of the auctions. Yesterday, for the entire day, the benchmark 10 year bond traded in a narrow 5.90-5.91 range. OMO today will be followed by the normal weekly sale of securities tomorrow. This will be for INR 28k Cr spread across three securities. Expectation is that enough liquidity floating around will result in good demand for the bonds and we wont see a repeat of devolvement as witnessed a few weeks back.