Dec

13

 As the splashes in a bathtub subside after jumping in, as a pendulum slowly comes to a standstill, and as a vibrating spring slowly stops, due to friction, the market after a big splash slowly spins to narrowing ranges. We see it in the cycles in so called common triangles, flags and pennants. Friction or other dampening mechanisms act on price swings. These phenomena are well measured in physics and led to powerful understanding of the nature and a similar measurement ought to be productive and predictive in the markets. Today's lowered range of 15 points is about the long term average. As Vic and Laurel noted, the last few days were above the 99th percentile. What is the mechanism and the measurement of such change?

Marco Loureiro writes:

The lookback period plays an important role when forecasting market volatility. In addition, the lookback period size often affects the convergence of different volatility models. Interested readers can refer to Stephen Figlewski's overview paper Forecasting Volatility as a good source of insightful information.

Lawrence Schulman adds:

Ultimately you need to decide the lookback period you want to examine. I did check the 600 day moving average for the true range for the S&P 500 and it was 14.5, so Mr. Sogi is right on, today's range is very close to a longer term moving average. Vic and Laurel did something a little bit different. Instead of taking a moving average, he added the extreme down/up movements in the S&P 500 that occurred in the last hour and a half of trading to the opening of the next day. There's more than one way to measure schizophrenia in the market.

Doug Kass offers:

Doug KassDaily Speculations is forever lost in the glory of numbers and esoteria — and absent simple logic.

The current credit crisis emanated from the unprecedented growth in debt over the last two decades, which was accompanied by the cessation of lending/borrowing judgment.

Historically low interest rates (brought to us by the prior Fed Chairman) encouraged the quest for yield, and normal due diligence was abandoned. The outgrowth is a world awash in an unwieldy and unregulated derivative market that managed to bypass traditional banking regulation. It is a setting in which patchwork mortgage proposals and/or creative Fed initiatives will not likely remedy in short order.

The markets are beginning to accept the notion that the financial workout will take time and, in all likelihood, can only be relieved by the natural forces of an extended recession. Corporate profit, business spending and personal consumption forecasts are going to be revised down -— by consequential amounts.

It is only at that point of time that stocks will become cheap again.

The truth shall make you free.


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2 Comments so far

  1. Tom on December 17, 2007 9:32 pm

    “As the splashes in a bathtub subside after jumping in, as a pendulum slowly comes to a standstill, and as a vibrating spring slowly stops, due to friction, the market after a big splash slowly spins to narrowing ranges. We see it in the cycles in so called common triangles, flags and pennants.”

    Are all these mixed metaphors just saying a big market move is followed by lower volatility? Should we test this as seeing if a sudden large trading range exponentially regresses to the mean in the next periods?

  2. Tom on December 17, 2007 9:35 pm

    “Daily Speculations is forever lost in the glory of numbers and esoteria — and absent simple logic.”

    Mr. Kass, better to be lost in “the glory of numbers and esoteria” than it is to be lost in your permanently bearish stance on the market.

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