Do Objective Linear Model based Systems work?

Just ask the Boston Red Sox .

On October 27 when the Boston Red Sox ended a generation long loosing streak to win the world series, few expected it. One person however expected it and  knew the probabilities were in Boston’s favor even before the season started. That person was John W. Henry the new owner of the of the Boston Red Sox.

The reason John W Henry could be confident in the Red Sox prospects of winning the world series is because he used an Objective Linear Model Based System to rebuild the Boston team from the day he bought it. On October 27 2004 we saw the results of Mr. Henry’s effort.

Applying systems to his ventures is not new to Mr. Henry, he founded John W. Henry and Company, Inc., in 1981. He applied his first Objective Linear Model based System to commodities trading with the JWH Original Program. According to Mr. Henry “We began trading our program, the JWH Original Program, in 1981 and this was after quite a bit of research into the practical aspects of a basic philosophy of what drives markets.”

“ That approach-a mechanical and mathematical system – has not really changed at all. Yet the system continues to be successful today, even though there has been virtually no change in it over the last 18 years.”

By now most people know that John W. Henry is the owner of the 2004 World Champion Boston Red Sox baseball team.

John W. Henry's claim to fame (and fortune), however, was and still is as a trend following trader. Michael Covel profiles John's trading and baseball prowess in his book Trend Following.

Red Sox Owner John W. Henry Watching His Players' Workout
Boston Globe Staff Photo / Jim Davis

Red Sox Team After World Series Win

Red Sox Win

Moneyball by Michael Lewis

A great book on baseball and trading is Moneyball by Michael Lewis.

From a recent interview with Tom Gardner, the author of Moneyball Michael Lewis offers:

"Well, Moneyball is about how the Oakland A's, on a low budget, win so many baseball games. The way they've done it is by finding value in players that other people have overlooked. And the way they do that is actually rather complicated. It involves a sophisticated and, in some cases, original use of baseball statistics to measure a player's performance. What they've had to do in Oakland, out of economic necessity since they are a small-market team, is to question all the traditional statistics that get used to evaluate players. They've challenged the traditional measures, asking if they really are a good way to measure what a particular guy brings to a team and how much he contributes to winning. Believe it or not, the answer in most cases is "no" -- traditional measures are not very accurate...What academics say about the stock market is that you can't find any opportunities. That the market is efficient and therefore all value is appropriately priced. There is some truth to that, but only some truth. I think the reason that Moneyball resonated so much with stock market investors is that the asset that the Oakland A's are evaluating, baseball players, is just like any other asset, like stocks. And naturally one would think that the value of baseball players would be perfectly understood by now. After all, this sport has been around for 100 years. You've had generations of experts who think they know what they're doing, writing articles teaching people how to value these players. The players have statistics attached to their every move...Well, here's exactly what I shouldn't do: give you a gut-feel answer. But my gut tells me that the market for baseball players is more inefficient, only because I've been around money managers for years. I worked in that business, the money business...I don't think the stock market or any market is perfectly efficient. A market is a human construct. It's made up of human beings making decisions in the way human beings make decisions. And that's as true of the stock market as of any other market. Human beings often make irrational decisions. Those who can see through that irrationality and emotion have and will always have an opportunity for superior returns."
Michael Lewis

Today, John W. Henry manages over two billion dollars in client assets and He owns the world series winning Boston Red Sox. Booth are the results of  studding his market, developing models and testing these models in endless simulations until he arrived at results He was comfortable with. Next he applied these systems  and achieved the success he sought.