Predicting the markets

Santa Fe in the New Mexico desert is best known to most of us as the home of gun-toting cowboys like Kit Carson and Billy the Kid, but it is also home to sandal-wearing cowboys flashing orders to money markets around the world - Prediction Company.

These pony-tailed outlaws wearing "Eat The Rich" T-shirts had a dream of making megabucks on the markets. They hoped to create a computer system whose data would always be right. In other words, a system of market prediction superior to any others in use.

In 1991 the financial safecrackers got to work in their Science Hut with five Sun Computers. Two of them, Doyne Farmer and Norman Packard had a background in physics as pioneers of chaos theory. But they were absolute beginners when it came to the world's markets.

A year later they were getting ready to go live with their system and start buying and selling futures contracts. Futures exist on many things, including stock indexes, interest rates, currencies and commodities. "At this point, they all look promising," Bass writes, "with plenty of inefficiencies and hidden patterns ripe for recognition." They needed to be bankrolled, of course, and found a sugar daddy in Swiss Bank Corporation no less. In the three days before Thanksgiving 1994 the portfolio made a few hundred thousand dollars profit and by the end of the year it was solidly in the black.

At a New Year's party they worked their way through a case of champagne, singing Wabash Cannonball and Bye-Bye Love with a guitar, mandolin, harmonica and piano.

By the spring they had logged their biggest profits, rogue trader Nick Leeson bankrupted London's oldest bank, Barings, and Doyne Farmer met George Soros. The legendary speculator wrote to Farmer afterwards: "With pros like you I had better retire."

Electronic trading networks open to people with a computer will eliminate the middlemen and cut execution time and fees down to zero. By 1997 the big players were rushing to build the infrastructure for electronic finance but, Bass writes, "it appears that a handful of people working out of an old whorehouse in Sante Fe, New Mexico, rank among the world's experts in this technology."

The experts were mystified by the October 27th crash of that year. The Sante Fe cowboys were nervous as they scrutinised their screens. Then they cheered. The portfolio had its best day yet.

The next year saw plenty of markets drama, including the Long-Term Capital Management fiasco. But Prediction Company enjoyed further successes.

And the latest report from Sante Fe is that Packard and Farmer are still making money.

Though The Predictors is burdened with detail and is often sexed-up ridiculously, it is an entertaining read for anyone interested in the future of the markets.