We all share common assumptions about the world, most of which are true, but not always. One of my friends was crossing the street in Tokyo, and looked carefully to the left to check for oncoming cars. He was seriously injured by a car coming from the right; he had forgotten that in Tokyo cars drive on the left, English-style. The story has an added zinger, because the man had been born and raised in Tokyo before moving to Chicago as an adult.

There are an amazing number of things that sound simple but are not. Why are rainbows curved? Why is the sky blue? Any friend of a six year-old gets a lot of questions like that, but few of us can give a correct answer. Once in a while, a smart person will ask a simple question that cannot be answered even by experts, and causes a change in the way we think about the world. This weird question is called a paradox. You may have studied the Paradoxes of Zeno in a math class some time. To solve these paradoxes required modernizing ancient mathematics to cope with infinite series.

One simple question should have changed science, but the answer was so opposed to scientific assumptions it didn’t happen: “Why is it dark at night”?

Why can a grown-up ask such a silly question? Even our six year-old buddy can show how the rotation of the earth.... Two centuries ago, a grown-up man, a professional astronomer yet, asked that question. He claimed that by the assumptions of Newton’s cosmology, it should not get dark at night.

Ever since astronomers realized that the heavens are not some kind of solid dome over the earth, they speculated whether the universe had any kind of boundary at all. In Newton’s view, the universe existed in an infinite space. But he calculated that if there were only a finite number of stars in this space, gravitational attraction between all would cause the universe to collapse to a single point. So the infinite space must contain an infinite number of stars. That way the gravitational force on any star would come from all directions equally and the cosmos would be stable.

A second assumption was that the universe was perfectly clean and transparent. God’s celestial creation could not be filled with dust and garbage.

In 1823, the German astronomer Heinrich Olbert thought about this model of the heavens and pointed out that if there were an infinite number of stars out there, then in whichever direction you looked, your line of sight would be blocked by a star. The sun is bright because it is close to us and covers a lot of area in the sky. Every star occupies a tiny point in the sky, but that star point is just as bright as a point on the sun . The skies should be blazing as if the sun filled the whole sky, night and day. Since that is not the way the sky looks, we had a new paradox. This one was named Olbert’s Paradox, and is still discussed in current textbooks. Since no one of Olbert’s fellow scientists could resolve the paradox, they did the sensible thing and ignored it. The problem was not solved until the 1920’s, a century later, when Hubble proved that the universe was not static, but expanding. The universe was also not clear but dusty. In a dusty expanding universe, there will be spaces between stars as seen from the earth, and the dust will make the stars less bright, so Olbert’s Paradox was resolved. Hubble is famous and got the space telescope named after him, while Olbert is a footnote. Olbert could have been a contender, but he could not take the leap of genius to revolutionize astronomy.

My point is not to give a poor-quality lecture on astronomy. The point is that no scientist could deduce the true structure of the universe for a hundred years because none were willing to scrap the assumptions of the Newtonian world. This can still happen today. You probably studied the Petersburg Paradox in some math or finance course, and had to explain it away. We all have a box of assumptions that control our thinking process and it takes a rare iconoclastic genius to think “outside the box.”

Why did the Egyptians lie?

The Italian philosopher Giambattista Vico, a contemporary of Newton, was a marvelous transitional figure between Renaissance and modern thought. His “New Science” pioneered the use of philology and etymology in historical criticism. The book was seldom read after he died until a fashion for “New Age” philosophy appeared in the 1970’s and rescued his ideas from obscurity. Vico’s thesis was that the historical past could be explained by modern scholarship on ancient relics and records, along with correct theology. This was a novel and powerful approach to the study of Rome, Greece, and Egypt.

As Professor Vico studied the documents of the earliest civilizations, he ran into a paradox of chronology. Egyptian historical records were continuous from 4200 B.C. or earlier, but Vico believed in the literal truth of the Bible, so he “knew for sure” that Noah’s flood wiped out Egypt in 2332 B.C. Therefore, to him it was a logical consequence that the Egyptians must have fudged the books. Vico was forced to seek psychological causes for his deduced Pharaonic mendacity.

Of course, we now know that Egyptian chronology was correct, leaving Vico with nothing but the honor of writing erroneous psychohistory 150 years before Freud popularized the genre. One can’t blame Vico for staying with his orthodox belief in biblical chronology; for he was a professor at the conservative University of Naples in the 1740’s, and a heretical theory could have brought him before the Papal Inquisition. Vico provides us with an example of a careful analyst doing ingenious work based on faulty premises, resulting in an erroneous conclusion.

Why do the Chinese use Hebrew?

Well, they don’t use Hebrew, but I thought they did. In April, Leah and I were in Xian, where the terra-cotta army is posted. I saw a van in the hotel driveway that had, in our alphabet, the word “MSIRUOT” printed neatly on its side. That word means nothing in English or Chinese, but it looks like Hebrew (think of the city of Sderot). It took me about a minute to figure out that the painter had taken an English word but painted it backwards. There were several assumptions that were confounded by the Xian van. In English or other European languages, we assume writing goes left-toright. In Hebrew, writing goes right-to-left. Chinese can go from either the left or the right (although they really like top-to-bottom). The collision of incompatible assumptions resulted in some smiling stsiruot.

Why do they call it the Stock Market?

In 1905, the Chicago Symphony Orchestra appointed a principal conductor. He took the young orchestra and built it into a world-class orchestra over his long tenure. He finally retired in 1942.

In 1905, the Dow-Jones Industrial Average traded at 100. The U.S. economy was just taking off, as manufacturing supplanted agriculture as our leading sector. U.S. Steel was founded in 1905. General Motors, General Electric, DuPont, Merck, Proctor & Gamble, Sears, Macy’s, Firestone, International Harvester, Armour, A&P, Coca-Cola, Anaconda – all date from this period of history. Railroads, autos, electric utilities, agricultural machinery, steel, oil, aluminum, radio, meat-packing, supermarkets, department stores, air-conditioning, all were fabulous new growth industries....

In 1942, after all this fabulous industrial development, the Dow-Jones Industrials traded again at 100. Also in 1942 the CSO conductor retired. After 37 years at the podium, Hayden’s Symphony #100 sounded about the same in 1905 as it did later in 1942 (probably better; the orchestra had improved). But the market sounded about the same as in 1905, although the unfortunate shareholders who had gone through the 1930-1942 market did not fancy the tune. In 1942, the Great Depression had just ended, only to be replaced by World War II, which, in early 1942, we were losing. It is true that if an investor had adopted a buy-and-hold strategy in 1905, and stayed with that strategy, he would have made a decent return on dividends. That statement is true as academic logic, but real-world people faced with the panic of 1907, the Great War, the 1920 depression, the 1902 bull market, the 1929 crash, then the Great Depression, and then World War II, did not stick to a buy and hold strategy. (Certainly my grandfather did not. He came to this country penniless, married well, and was a stockbroker through this whole period. He was rich in the 1920’s and stone broke after the crash). His generation ended in financial tragedy with a revulsion against stocks.

The market didn’t exist in the 1940’s. How can I say that? Obviously there were shareholder-owned companies around. The point is that very few people cared. The people that did care detested the market, because the market waswildly volatile but without long-term trend, and manipulated by crooked insiders. Trading volume was about one million shares per day, which meant that the volume at one year of trading in 1942 could be done in one hour of trading today. Answer this question: are you long or short orangejuice futures? I suspect your answer would be “Huh? I have never traded orange-juice futures and I have no plan to do so in the future. Please change the subject.” Exactly. That is how people felt about stocks in 1942, except they hated stocks but liked orange-juice.

So the key question is, “What was the name of the CSO conductor?” The answer: Frederick Stock. Next question: Was the market named the Stock Market in his honor? No. The name of the market had been Stock for a long time. We can still memorialize the great musician by dubbing his 1905-1942 tenure the Fred Market.

There were not many books written about the stock market in the 1940-1955 era, but the most common theory on an unpopular subject was “formula timing”. The normal market assumption was that the Fred Market was a random process without trend, so you could establish valuation bands. If the Dow was at 300, stocks were too high, so you should be all bonds. When the market dropped to 100, fully in stocks, and in between there might be three bands for a stock-bond mix. This sounded like a perfectly reasonable system for anyone who had lived through the Fred Market. Of course, in 1954 the Dow broke through the 1929 high and sailed upward, leaving the Formula Timing fans out of stocks at the start of a great bull market.

As CFA’s, our religion is based on the books of prophesy by Ben Graham. His early ideas of value investing were based on Fred Market experience. If you could buy a stock below book value, it was cheap and sensible, while three times book was time to sell. Growth didn’t signify. Graham’s system was based on assumptions that did not hold in a long bull market.

Like Olbert’s Paradox, and Vico’s Pharaohs, the conclusion depends on the assumptions.

Ralph Wanger, CFA, is Senior Advisor to Wanger Investment Management, Inc.