Thursday, May 29, 2014
Collins, The Nature of Investing
The Nature of Investing: Resilient Investment Strategies through Biomimicry (Bibliomotion, 2014) lays out her ideas. Let’s start with the alleged advantages of the biomimicry-based framework: it is the ultimate in sustainability, it is nonjudgmental, it is an inherently integrated approach, it is inspiring and comforting, it is flexible and durable, and it is un-fluffy. Explaining the last point, Collins writes: “Nature is not all rainbows and kittens, and natural systems certainly do not sit in a romantic state of perpetual balance and bliss. It is the disruptions in nature, and the responses to them, that can teach us the most.” (p. 13)
Biomimicry asks us to look to nature as model, mentor, measure, and—Collins adds—muse. So how can nature help us reframe our investing ideas? Collins proposes a series of natural scorecards to rate investment options. For instance, in assessing the mutual fund investment option, she asks: Does it use multifunctional design? Does it employ low-energy processes? Are all materials recycled? Does it fit form to function? She suggests that mutual funds get a B or B-.
Investments can also be judged according to the principles of life-friendly chemistry. Conventional mortgages are pretty well aligned with these principles. They get a grade of A- or B+ on the following test: Is there “chemistry in water”? Is the product built selectively, with a small subset of elements? Does the product break down into benign constituents? CDOs, by contrast, fail the test.
Then there are the “integrate growth and development” principles: combine modular and nested components, build from the bottom up, and self-organize. How does high-frequency trading stack up? HFT “sort of” aligns with these natural principles of growth and development, rating a grade of C or C+. If you’re at a loss to figure out how to measure HFT against these principles, let me quote Collins at some length. First, “Each trade is an individual action, and each piece of a trading algorithm is also discrete. When these pieces are nested together, that’s when the whole firm and whole algorithmic approach are revealed. So, there is some evidence of using modular and nested components.” Second, “These firms do not begin by examining the entire market and then carving off slices where they’ll participate. Each trade, each security, each exchange presents individual opportunities, and these aggregate to form overall activity. So, there is some evidence of building from the bottom up.” And finally, “The concept behind a trading algorithm is to create simple rules to guide activity (of course, the simple rules are wrapped in elegant, perhaps complicated, code). And the business concept behind most HFTs is that gathering up tiny profits over and over again creates good business results. In theory, at least, this idea is not so far from life’s principle of self-organization.” (p. 58)
The problem with HFT as we know it is that its growth was “not supported by commensurate development in all of the structures needed for healthy function.” In its overgrown version there is much less alignment with the principles of “integrate growth with development.”
Although Collins gives several more examples of grading financial markets according to natural scorecards, let me jump to what I consider a more fruitful line of inquiry. Collins suggests that the following transformations are needed if we are to reclaim the true nature of investing: from efficient to effective, from synthetic to simplified, from maximized to optimized, from disconnected to reconnected, from mechanical to mindful, from static to dynamic. “When we put them all together,” she claims, “we move our entire system from fragile to resilient, from extractive to regenerative, from disconnected to reconnected.” (p. 108)
Collins’ book is not intellectually rigorous, and much of her analysis is forced. But since by now I think it is commonly accepted that financial markets are, like ant colonies or beehives, complex adaptive systems, we need to keep pressing to develop models and to devise regulations that properly reflect these qualities.