Last week, I wrote a trilogy of posts on how to approach investment research. I called it the Hitchhiker’s Guide to Investment Research and staying true to the theme, this is part 4 in this trilogy. It is my criticism of the tendency in both finance and economics to dismiss falsifications of theories and rather stick with confirming evidence.
I've always wondered why economics is regarded as science when it clearly isn't. The number of existing economic theories that contradict each other on fundamental premises is mind-blowing, and none of them can be tested in experiments that resemble the real world. It's clearly a field like philosophy or theology... great thinkers, but no real results. That's not to say it's impossible to do good small-scale experiments on smaller questions in economics that produce results. That's been done, but it will always remain impossible to scale these results up to whole economies.
"If finance were a true science, the majority of academics would dedicate their life to formulating and testing better theories of asset pricing"
Love your work, and I don't really disagree with anything you've said here. But a slightly different framing:
I think asset pricing is by nature unpredictable because it's all based on future cash flows. No one is confused about pricing a risk free bond. Equities are ultimately the same thing but the cash flows are much more uncertain
Asset pricing models are going to be wrong because companies will do unpredictable things. I guess the least wrong model is the most useful.
Great article!
I've always wondered why economics is regarded as science when it clearly isn't. The number of existing economic theories that contradict each other on fundamental premises is mind-blowing, and none of them can be tested in experiments that resemble the real world. It's clearly a field like philosophy or theology... great thinkers, but no real results. That's not to say it's impossible to do good small-scale experiments on smaller questions in economics that produce results. That's been done, but it will always remain impossible to scale these results up to whole economies.
"If finance were a true science, the majority of academics would dedicate their life to formulating and testing better theories of asset pricing"
Love your work, and I don't really disagree with anything you've said here. But a slightly different framing:
I think asset pricing is by nature unpredictable because it's all based on future cash flows. No one is confused about pricing a risk free bond. Equities are ultimately the same thing but the cash flows are much more uncertain
Asset pricing models are going to be wrong because companies will do unpredictable things. I guess the least wrong model is the most useful.
Consistent thought provoking posts, this being one of the best......amazing author
"Which one of these cards do you have to turn over to make sure this rule is true?"
I think you mean "Which TWO of these cards do you have to turn over to make sure this rule is true?"
Nice article. Clear and interesting.
P.S. Judging by the number of youthful drinkers all the pubs in provincial England are run by economists.