Feb

28

The Bath Tub Theory is based on the premise that there is a fixed amount of water (money) in the tub at any given time. In the earlier piece we saw that money flowed from Indian stocks to the US with about a 5 to 6 day lead time. However at the core of any reasonable such theory the money must be returned. Just as the wave travels to one side of the tub it must also swirl back to the first side as well because the amount of water is relatively constant for any short period of time. So does the theory hold up and allow the money to return from the US to India?

To answer this question we only need to look at correlations between SPY and INP but, this time, with the SPY etf leading. Following are the correlations between the two with a lag of 5 and 6 days.

lag correlation
5 -10%
6 -18

A regression of the two lagged variables shows an overall correlation of 22%. We also note that the correlations and their respective regression coefficients are negative. This indicates that money flows out of the US and into India as expected by the Bath Tub Theory. For what it is worth the prediction for INP on Monday is a loss of about 1%. But be careful. The standard error for the model is about 3.9% so the prediction is well within one standard error. Over the last 95 days the chances of a successful prediction have been about 58% so its a little bit better than a coin flip.


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