The recent high regime of volatility may be coming to an end. How could this happen, as fear is currently running high and investors have given up on fundamentals? There are a number of reasons that the market volatility may have peaked. Like a fever it has swiftly risen and the beginning of this year has brought continued high levels above 50 in the VIX. No one can be certain but companies have cut and cut their staff, profits and dividends. But the next batch of earnings expectations is so low that they will be difficult to surprise on the downside.
March 25, 2008 | 2 Comments
Most of us spend our whole lives trying to predict the direction of the market. Usually the results are, at best, only moderately successful. Market direction is the most difficult to predict, but as has been discussed here volatility is sometimes easier to predict because there is demonstrably more serial correlation.
Assuming we had both a direction and change in volatility model how would it be used? One way is to look at the cases. They are:
We could use simple option strategies depending on our outlook for volatility. When vol is expected to rise we would want to be long options. When vol is expected to fall we would want to sell options.
The choice of the option then is controlled by our expected directional outlook. The following table covers the cases:
direction volatility strategy
up up Buy call
up down Sell Put
down up Buy Put
down down Sell Call
It is worth noting, in passing, that direction and vol are generally negatively correlated. This implies that the cases up/up and down/down are relatively rare. The other two cases will occur more often.
Perhaps others can suggest different strategies within this framework.
Steve Bal responds:
I would suggest that volatility and direction are both a matter of time. One is obviously a matter of timing the market (as there may not be another time for a top/bottom) and volatility is a matter of time - time that it takes to revert to the mean.
A different strategy may be playing the time frame of volatility. In this exercise on would try to time the daily volatility within the context of weekly/monthly volatility of time.
In this scenario if your daily timing of volatility is wrong there is the possibility that time may be on your side over the longer term. I would never suggest relying on hope (of the longer term) but to reduce/hedge positions if volatility is not on your side.
Early last spring, Vic and Laurel mentioned they were doing something they had not done before and were making a personal investment in Google stock. I recall this because it reminded me of when Jim Fassel, then head coach of the New York Giants, made a bold statement that the team was on their way to and through the playoffs and on to the Super Bowl. Everyone who wanted to be a part of it had better get on board. Those who were not willing to make that commitment could just get off.
At the time the stock was approximately $350. Around the same time, Jim Cramer devoted a show to Google and said the stock would climb above $500, noting fundamental reasons such as its per-share earnings and its ability to hold a 50 P/E.
Naturally there was the usual back and forth discussion. Google commentary was ubiquitous and bull and bear camps were established to debate the merits of the stock.
Today, Google is $514 per share. One year ago, Apple was $50. Today it is $144. Garmin was around $50, and now it is $80.
The lesson to learn from this: Great stocks are to be owned. Companies who dominate their space are to be kept and allowed to grow. Those who have built fantastic franchise names should be accumulated. Buy Google over Yahoo. Apple over Dell. And most importantly, the speculator should be willing to hold on, eschewing the quick buck in search of the really big gains that can be achieved through diligence and patience.
Easan Katir remarks:
"Pride cometh before.." notwithstanding, I feel compelled to relate that Thursday afternoon after hours I shorted GOOG at 547. Instant gratification feels good! Most trades have elements of shoulda woulda coulda been bigger, better, higher, lower, earlier, later, faster, slower. But not this one. This time I earned my keep! Please forgive this anecdotal, non-counting, horn toot.
Steve Bal writes:
The market favorite GOOG last week became the poster child for a market sell off. Was this the result of great earnings? If I hold average securities whose earnings are average then what chance do my stocks have of rising when GOOG, with great earnings, is selling off?
This impact is significant in the short term as stocks that have earnings releases early this week may come under selling pressure. However, by Wednesday we come up against the firm that has been setting higher records than GOOG, has rallied more than 60% this year, and has more earnings than GOOG. That stock is the new poster child for a great stock, AAPL.
The following are the top 10 most read stories at marketwatch.com. Eight of the stories seem bearish and only two relate to actual company earnings.
I would presume that the readers of these stories must be individuals who have sold recently and are looking for comfort in having made the decision to exit the market at a triple top. I have no idea what that is or what the odds of it being true are but if earnings are rising at 41% for Genentech and profits up 34.5% at Infosys, that is reason enough to buy stocks.
One story is about earnings hopes but the two earnings stories are not hope but fact. Further, all bad news stories have been factored into the current market / index prices and the news in this case offers little factual information.
- U.S. stock futures choppy amid renewed housing jitters
- Is that a triple top forming in the Dow?
- Stocks rise as earnings hopes offset subprime woes
- For home-builder stocks, bad news just keeps piling up
- Wireless-phone industry tactics criticized
- Will stocks feel subprime sting as debt ratings are cut?
- Genentech quarterly earnings surge 41%
- Infosys profit rises 34.5%; full-year outlook pared on forex
- Dollar remains pressured as euro, pound hit highs; yen retreats
- Oil stocks weather downturn in crude, oil service downgrades
In the animal world, ground hogs will make a certain noise to signal that a hawk is overhead. Other animals have similar patterns such as bees doing a dance to signal the source of food. It would thus reason that investments that share characteristics would behave in patterns familiar to people using a value or style method.
Animals left to themselves find a natural stable point between predator and prey but this becomes unstable with people as there is a need to get ahead in the short term at the expense of others. In business this issue is often resolved with methods of price-fixing.
Finally, groups may behave unlike the random investor who will attempt to profit from trial and error in this sector or another. It would appear that a stable group of (long term) investors has come to conclusions about the future of the sector and random (some such as small caps are larger) fluctuations just come with the investment.
Scott Brooks writes:
Studies have shown that white-tailed deer that are left to themselves, or orphaned (assuming this is after they are weaned) actually do just as well as their counterparts with a mother.
Another interesting aspect to this phenomena is that if you want to keep the buck fawns on your property, it is best to shoot the momma deer and leave the fawns alone. Once the momma goes into estrus, she will run off the button buck (buck fawn). It is believed that this is an instinctual action to that lessens inbreeding. The buttons are left to fend for themselves and find a new home range. They usually travel for several miles, and are disproportionately killed in the hunts. If the mother dies or is killed, there is no one there to run off the button buck, and he will almost certainly stay in his familiar home range. This actually has been shown to increase his chances of survival.
There is a definite cyclical instability in wild in predator prey models. One of the easiest ways to observe this is by watching the rabbit population vs. the coyote population. They definitely ebb and flow opposite each other, never seeming to reach an equilibrium.
The problem is not so pronounced in a well managed whitetail herd. Man is the whitetails biggest predator and man does a pretty good job of keeping the whitetail in check. Due to our ability to use reason and logic, we do a pretty good job of holding the whitetail population in check and stable.
What I find interesting is that in the area's where the whitetail population is out of control, such as cities, it's usually because people are not using logic and reason to solve the problem they're using emotions. I'm reminded of when John Galt said to Dagny, that when you're confronted with a choice and your head and heart are conflicted, always go with your head. ) The point being that in cities, people let their emotions get in the way of doing what is best for maintaining the healthiest most well balanced deer herd possible.
I always find it interesting when city people complain about the deer, but then are all aghast at the idea of harvesting the renewal resource. They always seem to want to try the same tried and failed methods.
This is similar to investing. Most people that invest in the markets really don't have a fixed system that is researched and tested and proven to work. They invest in the emotion of the markets and end up buying the investment that they wish they'd bought last year. As a result, they never reach a consistent equilibrium in the markets and as a result, greatly under perform the 10% long-term positive drift.
The Market Mistress loves to swoop in and devour the portfolio of the unexpecting. But her older sister, Mother Nature, is a vicious task mistress and makes the Mistress look tame by comparison.
Yishen Kuik comments:
I think it has been mentioned here before that classic predator-prey models show cyclical instability instead of steady equilibrium.
James Sogi writes:
Fish cluster in schools. The edges of the clusters are quite defined. None of the fish want to stray far beyond the pack. Same with traders. Look at how the closing price over the last six days, except Tuesday, clustered together despite wild swings.
Panicking is the worst thing to do around sharks. They don't bother humans or fish, only things that are injured or dead, easy prey. They never bother a strong confident swimmer or surfer, only things that look injured or panicked which is a good market lesson as well.
The July 2007 issue of National Geographic contains an extremely interesting article by Peter Miller on "Swarm Theory". Swarm Theory attempts to quantify how individual actions of unintelligent individuals develop into the complex behavior of a group. The way ants or bee colonies work together for the good of the group is discussed in detail then how this can be applied to complex human/business systems. For instance, Marco Dorigo, a computer scientist at Universite' Libre in Brussels modeled ant behavior to solve logistical truck routing problems. One company specializing in artificial intelligence applies algorithms gleaned from the foraging activity of Argentinean Ants to manage industrial plant applications.
Upon reading this piece, I immediately considered how these ideas can be applied to the markets, stock indexes in particular. The base factors appear to be similar regarding the unintelligent individual player/relative small group. (unintelligent in regard to the unknown future price movement). Complex group behavior resulting in the changing cyclical nature of indexes, etc. This is definitely something worthy of additional study.
Steve Bal adds:
I have looked at this in the past reviewing such theories as flocking and how ants lay trails for other ants to follow (like the ants found in trees that seem to follow a perfect zigzag pattern). However, most animals have a rapid maturing process unlike humans and thus their environment has a smaller role in their behavior. It would appear that ants and bees act according to pre-programmed genes and evolve over time as laid out by Darwin.
One area of interest to me has been how birds act as a group with group coherency and no need for a formal leader of the pack. I would think this may be similar in the markets as the smart money is the one that makes the most noise and pilots the crowd in its direction of change.
Volatility is an unnatural instrument to trade. It moves up as the market moves down and it spends more time down than it does up. Volatility has a way of making its own time. There can be different measures of time but the calendar method is the accepted method (and only tradable one).
The other method of time that matters is the market tempo (as by John Boyd). The tempo may be sending the message to traders how willing other traders are to add to their positions. The tempo also changes with the players involved. And as the markets are experiencing low public participation, the volatility and tempo may continue to remain low.
It's a hard life trying to outperform the stock market indexes. Most of the time these traders do not have tested systems or, if they have done some testing, it is likely that the methodology used has some shortfalls. But let's suppose that everything is fine, and that they have managed to find a niche of market inefficiency which can be exploited by a small flexible trader in and out of the market very quickly. The problem is that a part time trader goes to work in the morning, participates in meetings, travels, etc. Sometimes the boss calls him/her right when the setup is there to be traded! When the system gives a buy/sell signal, he/she is not there to trade it. The lack of consistency is the main issue. For a European trader, it is even worse. Markets in the US open 15:30 European time and close at 22:00. The European part time trader goes home when US markets are open and finds the family "requirements" to be met often more demanding than those of the office work. He/she has to help the kids with their homework, the wife/husband with things to do, dinner time, friends after dinner, etc. Being consistent with the trading plan is almost impossible even for the most determined and focused part time trader. Moreover, when they go on holiday, no trading is possible unless they want to divorce. At the end of the day, although their system works fine and they are very disciplined traders, there is no way to outperform the market simply because they were not there to trade their systems.
Maybe the solution is to give up trading, buying an ETF and spend more time with the family.
Kim Zussman comments:
Yes, but there can be advantages to the part-time vantage:
1. Not looking at markets all day reduces over-trading. The more you look at moment-to-moment moves, the more tempting it is to mistake them for opportunities.
2. Long-term patterns and anomalies are generally more profitable because they integrate more risk and less vig.
3. Personal diversification: Necessarily, frequent losing trades are extremely painful, and it is nice to have other concurrent professional activities which are rewarding. Be a portfolio with a mix of risky and low risk assets, balanced to suit your psyche.
3a. Cover: Being ridiculed and berated by family and friends is diluted when the income stream is not at stake, and they can more easily forgive difficulties of a second vocation if the first is intact.
4. You can easily run your own hedge or mutual fund while drastically reducing cost and customizing risk to fit your temperament.
4a. If you are certain there are others who can invest much better than you, get past your ego and use them.
5. The market needs you, especially if you trade a lot and make many mistakes, to provide liquidity and profits for smart guys on the other side of your trades.
6. The golf rule: Investing/trading can be more frustrating than golf, but it is 1.5 million times more interesting and will make you a babe magnet.
George Criparacos adds:
As a part time trader, I identify completely with the problems outlined and with the response of Dr. Z. I would humbly like to add that there should not be a target to outperform the market.
Scott Brooks offers:
This is a great post by Kim! There is wisdom here for everyone, even those who are not part time traders. Everyone, even pros and day traders, should cut this out and put it in their playbook. I know I am!
Thanks for this Kim!
Scott Brooks further adds:
It is important to remember that outperforming the market (usually thought of as the S&P 500 … the cap weighted index) is difficult. Most pros don't beat the index.
Maybe your goal would be to create an income stream of 3%/year to live on with a moderate amount of growth to offset some of the effects of inflation.
Maybe your goal is to beat a composite index of stocks and bonds (pick the indices that you think are appropriate).
Maybe you're good enough as a personal trader to accomplish the return goals your looking for and to receive satisfaction from managing your money (kind of like a hobby … but one that is profitable).
I have several clients that have me run a portion of their portfolio while they run the rest. The reason in many cases is that one spouse has nothing to do with the money (usually the wife) and the other spouse likes to invest and is really into it (usually the husband). The husband realizes that if something happens to him, his wife is not just going to take over the portfolio and all of a sudden become an expert in something that she has no interest in. So he has me run a portion of the money so that he can be comfortable with my competence and the wife can have a relationship with someone that she knows and has come to trust.
People can have many goals in the markets. It is imperative that you:
1. Identify what your goals are
2. Figure out a methodology that can accomplish those goals
3. Figure out if you have the time to work that methodology
4. Make sure that a fail safe is in place (i.e. work with a professional if your spouse is not interested, or work with your spouse)
5. Figure out if you have the competence to accomplish your goals
6. Be able to back test your system in the bad times (everyone was bragging about their genius in the 90's … but seem to have lost half their new found IQ since)
7. Have a playbook for how to handle different scenarios (especially what I call lifeboat drills)
8. Be willing to admit that they may not be able to do it
9. Other things that are important that I'm sure I'm missing
10. Make sure that you're having fun if you meet all the above criteria
Steve B. adds:
The part time trader is not the problem or the issue. The part time trader has at his disposal an arsenal of conditional orders that are set to fire on almost any imaginable market condition. It is the conditions that the part time trader has not taken the time to identify.
The issue in this case is the strategy. A part time trader will trade like "the trend is your friend." In this case the trend is what is hot and what strategy is in vogue. With the ever-changing cycle of trends, there is no possible way to get ahead in this type of trading. I would also argue that the part time trader is price focused - he does not care about volatility, interest rates, currency fluctuations, emerging markets, etc. due to the nature of his game "part time."
The part timer finally is apt to find shortcuts in order to make up the difference in time. The problem with shortcuts is that they run near to the edges of steep cliffs.
Dylan Distasio responds:
The issue in this case is the strategy. A part time trader will trade like "the trend is your friend." In this case the trend is what is hot and what strategy is in vogue. With the ever-changing cycle of trends, there is no possible way to get ahead in this type of trading.
I would disagree with this statement as someone who has traded both fulltime as an intraday trader, and who now trades part time with a different vocation during business hours (and a longer trading time frame for a number of reasons). The part time trader is not tied to trend following strategies, and is certainly not obligated to follow what is hot and in vogue. They are just as capable of fading the herd as a full time trader or coming up with any other strategy to try within an interday time frame.
I would go on to argue that trend following strategies are capable of making money long term. The No Load Fund X newsletter which combines a relative strength trend following strategy with mutual funds (or more recently ETFs) has consistently beaten the S&P 500 since 1980 as audited by Hulbert Financial Digest.
In any case, they are not tied to the trend. There's nothing preventing them from following whatever strategy they wish. Practical considerations usually exclude the intraday time frame as an option for the part time trader, but they can use their ability to sit on their hands and cherry pick within a longer time frame as a strength.
I would also argue that the part time trader is price focused - he does not care about volatility, interest rates, currency fluctuations, emerging markets, etc. due to the nature of his game "part time."
I would argue that the part time trader should care about all of these things. Speaking for myself, I certainly do.
The part timer finally is apt to find shortcuts in order to make up the difference in time. The problem with shortcuts is that they run near to the edges of steep cliffs.
The part timer who is serious about attempting to beat the market should realize the amount of work required to do so. I think most of the ones who are able to trade part time and consistently beat the market are combining a lot of hard work after hours with their experience, and a willingness to constantly learn.
J. Klein offers:
Respectfully, I would tend to disagree. Part time vs. full time is not a question of strategy. It is, I feel, an acknowledgment of one's limitations.
Many will disagree, but I find that trading is mainly hard work. If you work hard on learning the market and about yourself, eventually you will work out some small strategies that leave you with a few more coconuts in the evening than you had in the morning. I am old enough to have seen more than one dumb young person get decent rewards, if they hung around long enough and are honest and hardworking.
The market is very large and there are many opportunities, but a part timer may take a relaxed view and let most of those golden opportunities flow away. Existing in a less pressurized environment, he may engage in only a few situations, and follow them more carefully. He trades part time, but his mind keeps working full time (how can one avoid it?) so he may be doing more thinking on each trade. More thinking, less pressure, less fear = better results, hopefully.
I came across Gray Television, which operates CBS and NBC television stations, and which was recommended in Barrons this week. Its philosophy of operating stations in state capitals seems to me the soundest thing I've heard since such capitals always increase in population, influence, and commerce. According to Nock's idea, the only job that matters in the U.S. is the Secretary of the Interior. When I visited Brussels in 2001 and saw the E.C. starting there, I predicted similar growth to Washington. I thought that the real estate market there would have similar growth to that of Washington from the 30's, as more and more plucking of geese was done there. I wonder what other companies are so situated to profit from increases in capital activity.
There is much talk about this being the longest period in market history without a 10% decline, and that it's going to come soon. Noticeably absent is the testing relative to survival statistics that of course shows a hazard rate decreasing after a threshold. But all are waiting for a 10% decline and presumably they will be ready to buy when it comes. Of course, like the 9% decline in May, it will probably come just short of that, not to give them a chance, but if it does come, there should be some nice buying there. There is also talk about the Bernanke put not being as high a strike price as the Greenspan put. Hickey and Faber and R. Forsyth are also very bearish, and this time it is not because of Iraq-as in the previous Abelson world's record for consistent bearishness, comparable to the Caltech streak, or the first rounds lost in Tennis streak–but because of declining world liquidity caused by oil price declines. Discussions of the broken window effect are there, but there is a total obliviousness to the fact that when goods get cheaper, real income and real wages increase, and this raises individual and total wealth. Similarly it's not the GNP measurement problem that the broken window effect is designed to capture, but it is rather the loss in total output that occurs when a broken window is replaced with a new one due to the opportunity cost of fixing it.
With all the talk about mechanical systems that find overvalued stocks–which are all as we have posited many times broken because of faulty data, ever-changing stocks, and low priced effects–it would seem apt to find groups of stocks that are sold down hard by such things as mechanical signals triggered by earning lapses, so that a bull move similar to those by Drew (when he was on the long side, based on and triggered by Little's bearishness before his bankruptcy) in the 19th century could be engendered. The statistics on moves in short interest classified by individual stocks would seem to be a good foundation for such maneuvers.
I am reading Our Brave New World by GaveKal Research and it contains a mass of untested assertions from a money making persona similar to their view that companies that don't manufacture but are designers do much better than manufacturers. This would seem capable of testing via changes in asset levels, and return on capital figures, and one doubts that it would bear out the GaveKal thesis. But their idea that intangibles, knowledge and education, and free trade are the key to prosperity seems to put them on the weather gage.
Vic further adds:
Read this chapter on lognormality, which shows the intricacies of even preliminary work.
Steve B. comments:
Discussions of the broken window effect are there, but there is a total obliviousness to the fact that when goods get cheaper, real income and real wages increase, and this raises individual and total wealth. Similarly it's not the GNP measurement problem that the broken window effect is designed to capture, but it is rather the loss in total output that occurs when a broken window is replaced with a new one due to the opportunity cost of fixing it.
With all the talk about mechanical systems that find overvalued stocks–which are all as we have posited many times broken because of faulty data, ever-changing stocks, and low priced effects–it would seem apt to find groups of stocks that are sold down hard by such things as mechanical signals triggered…
"The government's statistic is broken" is often heard from the caves of bears as they run out of hard evidence and resort to mud slinging and conspiracy theories. Just last week, the ADP data showed a market with jobs lost only to be replaced by the official numbers of job growth. The latter propelled the markets as the ADP shook out willing sellers and those who thought they were getting some kind of inside information from the ADP numbers.
Some mechanical systems are the shortcuts of part time traders and the sellers of fortune. There are opportunities in stocks that trade away from their peers only because they have been sold hard due to some trivial news event that caused a large enough price move to trigger mechanical systems. The price based trader will always be with us and I suspect some have already found some of their trigger points, such as was done years earlier by Market Makers holding the "book."
December 26, 2006 | Leave a Comment
The case for deception in markets is an interesting one, but for several reasons I hypothesize that what we are seeing may be self-deception:
Deception on such a large scale would imply that some kind of collusion is involved by market participants as no one source of participants is large enough to move a liquid market.
Let’s say that last time there was a particular memorable event a related market moved sharply in a particular direction. Those who were stung the previous occasion are likely to liquidate their positions on the basis of ‘once bitten, twice shy’. Thus they move the market in the opposite direction to last time prior to the event in question.
Steve Bal adds:
On the second point, I would add that memory is different for market participants. For some it may just be the most recent event, for some it is an average of the past events or a weighted form, or it could be the most prominent event from the entire past that has the most bias.
In either of the scenarios it would be limited to a group of traders who provide some market liquidity and not to the group as a whole. As the markets move ahead it is the group of traders who have been stung (such as this past week) who will pay a higher price to re-enter the stocks they sold. They will willingly pay more to re-enter the game than be left behind in the new year.
Investors behave as traders but consider themselves investors.
Steve Leslie adds:
In human endeavors I notice similar themes in mimicking. Bullies also try to intimidate verbally with overt threats. Scut Farkus in A Christmas Story exemplifies this mimicking behavior.
They are the ones who rant and rave, throw fits and expend massive amounts of energy in an attempt to subdue those around them in lieu of physical confrontation.
In my experience however the more boisterous someone is, the less secure they are. A case in point is North Korea today. their rhetoric is loud yet how much substance do they have behind such threats.
And in the human species it is the quiet ones you watch out for.
Every martial arts expert I have ever met has been on the quiet side. Yet when they explode it is quite terrifying and extremely lethal. Bruce Lee was a fabulous example of this.
For further edification on this I strongly suggest a short book by Joe Hyams, called Zen in the Martial Arts.
In the absence of news, the markets will continue to move. This makes volatility an important market valuing tool/counter. Further, volatility is not the simplest concept to grasp, it is counter intuitive. Unlike the laws of motion that stay in place until changed by an outside force or friction, this does not apply to volatility. In some ways the market acts internally, generating its own swings, but people have a tendency to assume some sort of causation/correlation with events around the same time.
The conservation of volatility may come from the number of players/population of market participants. When prices gyrate it attracts attention. As the group of traders increases they are likely to arrive at an average price at a faster rate than the previous fewer players who kept trading (as opposed to holding positions/cash).
One of the most common phenomena that those of us who trade every day face is the delayed reaction to an event. Nothing happens when you expect it. For example the positive Employment number, seemingly so bullish, was greeted with a 1% decline from open to close on Friday. and now the election, which on the surface seems to create so much uncertainty among investors, especially vis a vis discredit of the Administration through impeachment forays and propaganda.
These delays in electric circuits are called hysteresis and I’ve discussed the various negative feedback loops and components that ordinarily are used to create same for practical purposes, e.g. in the Schmidt Trigger, which is very succinctly reviewed in the excellent book by Michael Merchant, Exploring Electronics Techniques and Troubleshooting.
I wonder what the general concomitants or preconditions for a delayed reaction are, whether they are predictable, and whether the seemingly fantastic positive response to the recent Democratic sweep, which was 16-1 on TradeSports from 9:45 am on Wed, Nov 7, and continuously higher at all times subsequent until the current finalization as of 11:00 pm, Nov 7, will be an example of the beaten-favorite/hysteretic reaction, and whether such delays can be predicted with similar events regarding individual stocks and or economic announcements.
Gary Rogan observes:
I don’t know how to quantify it but this has been my observation: often if a person or a group of people are acting out of negative emotions, such as anger, frustration, irritation, or boredom after a forced delay, they will go further than a rational observer will expect. Thus delayed action based on negative emotions seems related to hysteresis by overshooting the rational point. The voters have acted out of delayed frustration, so there is hysteresis involved in how that carried over to the markets to the extent that some of the voters are also investors. However when the realization sets in that Nancy and Chuckie will be acting out of a bit of their own frustration, and their “rational” point is a bit displaced from Adam Smith’s to begin with, I predict there will be a bit of a chill in the equity markets and it will last for a while. On a separate note, the more “bi-partisan” Bush acts, the lower the markets will go.
Jay Pasch adds:
This election day reaction is reminiscent of FOMC report days but with a wider timeframe; it so often ’seems’ on FOMC announcement days there is an immediate reaction, then a brief counter move, followed by the real deal, a trending move in the direction of the initial reaction. Admittedly descriptive and uncounted…
Rick Foust replies:
Years ago, when I watched tick by tick, I noticed the same pattern on FOMC days. A quick knee jerk, then a larger head fake, and then an extended run in the direction of the knee jerk. I suspect it also happens in longer time frames for larger events (such as elections).
The knee jerk could be up or down. It usually lasted only moments and could sometimes only be seen on a tick chart. The head fake was a longer movement in the opposite direction and lasted a few minutes. The final move typically finished out the day. The duration and magnitude of the moves varied from time to time. These were days when the the market treaded water waiting for the the Fed to announce the next interest rate move.
This three step process reminds me of a simple but effective Judo technique. First comes a quick and subtle jerk to freeze the uke (throwee). Then a push to get the uke to instinctively lean against the push and into the throw. Lastly, a long pull to guide the uke through his flight.
A 16 year old Japanese girl appeared at our dujo one day. I had worked with girls before, and I had learned to go easy on them. She was a foot shorter and a 100 pounds lighter. As a warm up, we were to alternate practice throwing each other. Being of the highest rank, she went first. Even though she was a blackbelt, I expected to have to help her throw me (that is, jump). Suddenly, and without warning, I found myself doing an airborne somersault. A split second after that I was lying on my back looking up at her with an astonished look. Her execution had been so skillful that all I had felt was a bump and then weightlessness.
The key to most Judo throws is to stiffen and off balance the uke, fix one part of their body in place and then rotate the rest of the body about the fixed point. A well-executed Judo throw relies more on finesse than strength.
Scott Brooks replies:
I believe the question that Victor is asking is “how do we know how the masses are going to react to news or an event that is possibly a surprise, or at least, not known in advance.
I’ll let those who are better counters than me handle the quant side of this. I’d like to explore the personal side of it.
How do I (or you) choose to react to an unexpected event or news. As investment professionals, or as speculators running our own money, I believe that one of the things that is incumbent upon all of us is to be prepared for the unexpected. One of the ways we can do that is to know the numbers….to calculate in advance what are the odds of “X” happening, and if it does, what are the most likely resulting reactions to follow….then….
What do we do from there? There is nothing worse than not being prepared.
My secretary (excuse me, she prefers to be called my “executive assistant”) has asked me on more than one occasion if I’m going to be doing any work that day. She’ll walk into my office and catch me staring up at the ceiling, or just passing around my conference table, making hand gestures at invisible people.
I tell her, “I am working”. I’m role playing in my mind scenario’s. I’m trying to cover every possible path the scenario may take. I’m trying to see problems before they occur, and then figure out how to solve them…but solve them in my mind before they actually happen so I don’t have to deal with the unexpected later….and if I can’t find a solution, I ditch that course of action and move on.
Since I’m up at the farm deer hunting this month, I’ll use a deer hunting analogy.
One of the biggest problems that many hunters have is buck fever. When they see a big buck, they come unglued. They can’t stabilize the gun, they can’t concentrate or hold the crosshairs on the vitals, and in some cases, get so nervous that they can’t even raise their gun. In some cases their knee’s shake so bad that they can’t even stand.
I have never had that problem. Oh sure, when I see a deer, I get excited. If its the buck that I’m looking for, my heart may skip a beat and leap up into my throat.
But then I go into the zone. My mind focuses in on the task at hand. I begin to assess the situation. I wait for the right moment and BAM. I do what I came out to do.
Why is this so seemingly easy for me to do? Because I’ve killed that buck thousands of times in my mind before the moment of truth came. I’ve visualized him coming from that exact direction hundreds of times. I know every possible path he could take before moving into a killing position. I’ve falsified hundreds of situations in my mind and role played them to figure out how to overcome the obstacles (i.e. is the buck alone, or is there another deer with him? What is the wind….blowing to or away from him? etc.).
I practice in my mind slowly squeezing the release on my bow and watching the arrow leap forward at 300 fps right toward his vitals, or slowly squeezing the trigger while staring at the crosshairs right on the bucks shoulder and actually seeing the bullet (thru the scope) hit the deer at the exact spot where I was aiming.
You see, just like I don’t know exactly where the deer is going to come from, or exactly what the conditions are going to be when he shows up, market events and news comes at us from unexpected directions and brings unexpected ramifications.
We simply don’t know what to expect….but we can role play what to do, have a playbook (that we’ve thoroughly memorized) ready to tell us what to do, and then execute the appropriate play to give us the highest probability of harvesting the big bucks!
Steve Bal replies:
This would suggest that the news makes the markets. I would suggest that the news is in fact talking points - just as some individuals believed that Kerry’s mix up of words would hurt the democratic vote (which we now know did not happen).
I do not trade every day but for some reason watch the business news regarding this number or that coming out. Further, it now appears that revisions happen more often than not (even if not true I believe it) and thus I may act upon it.
Individuals have different trading time frames, along with different strategies. It is times when multiple time frames for individuals coincide that markets can move. This is not support for cycle trading but a recognition of different trading motives. As new news comes into the market, traders then attempt to mesh with older news to reinforce their views of future market direction.
As Vic had previously pointed out when a big pharma increased their dividend (mostly dividend collectors noticed) a few days later they announced a big jump in earnings and the stock promptly moved. Everyone needs some form of extra comfort.
The collective consequences of many traders (individuals) often defy intuition.
- November 2014
- October 2014
- September 2014
- August 2014
- July 2014
- June 2014
- May 2014
- April 2014
- March 2014
- February 2014
- January 2014
- December 2013
- November 2013
- October 2013
- September 2013
- August 2013
- July 2013
- June 2013
- May 2013
- April 2013
- March 2013
- February 2013
- January 2013
- December 2012
- November 2012
- October 2012
- September 2012
- August 2012
- July 2012
- June 2012
- May 2012
- April 2012
- March 2012
- February 2012
- January 2012
- December 2011
- November 2011
- October 2011
- September 2011
- August 2011
- July 2011
- June 2011
- May 2011
- April 2011
- March 2011
- February 2011
- January 2011
- December 2010
- November 2010
- October 2010
- September 2010
- August 2010
- July 2010
- June 2010
- May 2010
- April 2010
- March 2010
- February 2010
- January 2010
- December 2009
- November 2009
- October 2009
- September 2009
- August 2009
- July 2009
- June 2009
- May 2009
- April 2009
- March 2009
- February 2009
- January 2009
- December 2008
- November 2008
- October 2008
- September 2008
- August 2008
- July 2008
- June 2008
- May 2008
- April 2008
- March 2008
- February 2008
- January 2008
- December 2007
- November 2007
- October 2007
- September 2007
- August 2007
- July 2007
- June 2007
- May 2007
- April 2007
- March 2007
- February 2007
- January 2007
- December 2006
- November 2006
- October 2006
- September 2006
- August 2006
- Older Archives
Resources & Links
- The Letters Prize
- Pre-2007 Victor Niederhoffer Posts
- Vic’s NYC Junto
- Reading List
- Programming in 60 Seconds
- The Objectivist Center
- Foundation for Economic Education
- Dick Sears' G.T. Index
- Pre-2007 Daily Speculations
- Laurel & Vics' Worldly Investor Articles