# Chance News 7

Sept 26 2005 to Oct 15 2005

## quotation

While writing my book [Stochastic Processes] I had an argument with Feller [Introuction to Probability Theory and its Applications]. He asserted that everyone said "random variable" and I asserted that everyone said "chance variable." We obviously had to use the same name in our books, so we decided the issue by a stochastic procedure. That is, we tossed for it and he won.

Joe Doob
Statistical Science

## Forsooth

Peter Winkler suggested our first forsooth.

Texas beats Ohio State in their opening game

of the season (Saturday Sept 10 2002). The sportscasters (legendary Brent Musburger on play-by-play or Gary Danielson on analysis) observed that of the 14 teams who have previously played in the championship game (at the end of each season) 5 have suffered an earlier defeat. "Thus," they conclude, "Ohio State can still make it to the championship game, but their chances are now less

than 50%."

### Discussion

What is wrong with this?

Here are two forsooths from a recent issue of RSS NEWS

'Big ticket quiz' at the start of Wimbledon:

Q. How many punnets (a small light basket or other container for fruit or vegetables) of strawberries are eaten each day during the Wimbledone tournament?

Is it (a) over 8,000, (b) over 9,000 or (c) over 10,000?

20 June 2005

Waiting time for foot surgery down by 500%

Evening News (Edinburgh)
5 July 2005

## Fortune's Formula

Fortune's Formula: Wanna Bet?
New York Times Book Section, September 25, 2005
David Pogue

This must be the kind of review that every Science writer dreams of. Pogue ends his review with:

"Fortune's Formula" may be the world's first history book, gambling primer, mathematics text, economics manual, personal finance guide and joke book in a single volume. Poundstone comes across like the best college professor you ever had, someone who can turn almost any technical topic into an entertaining and zesty lecture. But every now and then, you can't help wishing there were some teaching assistants on hand to help.

More Later!

## Which foods prevent cancer?

Which of these foods will stop cancer? (Not so fast)
New York Times, 27 September 2005, Sect. F, p. 1
Gina Kolata

Among other examples, the article includes a data graphic on purported benefits of dietary fiber in preventing colorectal cancer. Early observational studies indicated an association, but subsequent randomized experiments found no effect.

More to follow.

## Slices of risk and the broken heart concept

How a Formula Ignited Market That Burned Some Big Investors, Mark Whitehouse, The Wall Street Journal, September 12, 2005.

This article relates how a statistician, David Li, unknown outside a small coterie of finance theorists, helped change the world of investing.

The article focuses on a event last May when General Motors Corp.'s debt was downgraded to junk status, causing turmoil in some financial markets. The article gives a nice summary of the underlying financial instruments known as credit derivatives - investment contracts structured so their value depends on the behavior of some other thing or event - with exotic names like collateralized debt obligations and credit-default swaps.

The critical step is to estimate the likelihood that many of the companies in a pool companies would go bust at once. For instance, if the companies were all in closely related industries, such as auto-parts suppliers, they might fall like dominoes after a catastrophic event. Such a pool would have a 'high default correlation'.

In 1997, nobody knew how to calculate default correlations with any precision. Mr. Li's solution drew inspiration from a concept in actuarial science known as the broken heart syndrome: People tend to die faster after the death of a beloved spouse. Some of his colleagues from academia were working on a way to predict this death correlation, something quite useful to companies that sell life insurance and joint annuities. He says:

Suddenly I thought that the problem I was trying to solve was exactly like the problem these guys were trying to solve,. Default is like the death of a company, so we should model this the same way we model human life."

This gave him the idea of using copulas: mathematical functions the colleagues had begun applying to actuarial science. Copulas help predict the likelihood of various events occurring when those events depend to some extent on one another. Up until May of this year one of the most popular copulas for bond pools was the Gaussian copula, named after Carl Friedrich Gauss, a 19th-century German statistician.