Trading

Last Monday the news of the day seemed to be that the U.S. markets rallied because Obama committed to spend money on infrastructure.  I saw the same story on Bloomberg, CNBC, CNN, and pretty much everywhere I looked.  On the other hand, a quick check of the indices told me that most markets around the globe also were up between 4 and 10% that day.  Does that mean that Russia, Italy, and the Asian markets all rallied because Obama said that he was going to spend money on the U.S., or is it possible that some other catalyst caused markets to raise?

The point is that the news gives many a false sense of certainty.  There is an old trading adage: It isn't the news that matters … What matters is the reaction to the news.  And recently I sense that people are getting tired of the choppiness and are starting to buy again, even on bad news.

Bad News?  How about headline-making scandals?   First, the Governor of Illinois tried to sell his influence, and even the Senate seat vacated by President-Elect Obama. Second, Bernie Madoff, a former Chairman of NASDAQ, was arrested and charged with fraud in a $50 billion 'Ponzi-scheme' swindle of investors.  Third, we had the whole auto industry bail-out question.

Still, markets went up, and somehow fear is subsiding.  Will we see a Santa Claus Rally?  From my perspective, a downside correction and successful re-test would be more constructive here.  So would better volume and less volatility.  But beggars can't be choosers; and we've had a 20% rally off the lows.

Nature or Nurture: 

After watching the Government bail-out financial companies, the auto industry seems to have learned a trick, or two. To me, this video represents a very real part of our economic ecosystem.  The swan has been conditioned to pull the rope to request a handout.  When nothing happens, the swan keeps ringing the bell … and is ultimately rewarded.  Question: is the swan trained, or did the swans train their handlers?

The direct link to the video is here. 

Also, here are a few other posts that caught my eye this week:

• Henry Blodget on Why Wall Street Always Blows It (The Atlantic).
• Are You Buying Now That Blood Is In the Streets?  Some Scary Predictions (Fortune).
• Human Interest Twist to the Recent Financial Crisis in "Profiles in Panic" (Vanity Fair).

Last Monday the news of the day seemed to be that the U.S. markets rallied because Obama committed to spend money on infrastructure.  I saw the same story on Bloomberg, CNBC, CNN, and pretty much everywhere I looked.  On the other hand, a quick check of the indices told me that most markets around the globe also were up between 4 and 10% that day.  Does that mean that Russia, Italy, and the Asian markets all rallied because Obama said that he was going to spend money on the U.S., or is it possible that some other catalyst caused markets to raise?

The point is that the news gives many a false sense of certainty.  There is an old trading adage: It isn't the news that matters … What matters is the reaction to the news.  And recently I sense that people are getting tired of the choppiness and are starting to buy again, even on bad news.

Bad News?  How about headline-making scandals?   First, the Governor of Illinois tried to sell his influence, and even the Senate seat vacated by President-Elect Obama. Second, Bernie Madoff, a former Chairman of NASDAQ, was arrested and charged with fraud in a $50 billion 'Ponzi-scheme' swindle of investors.  Third, we had the whole auto industry bail-out question.

Still, markets went up, and somehow fear is subsiding.  Will we see a Santa Claus Rally?  From my perspective, a downside correction and successful re-test would be more constructive here.  So would better volume and less volatility.  But beggars can't be choosers; and we've had a 20% rally off the lows.

Nature or Nurture: 

After watching the Government bail-out financial companies, the auto industry seems to have learned a trick, or two. To me, this video represents a very real part of our economic ecosystem.  The swan has been conditioned to pull the rope to request a handout.  When nothing happens, the swan keeps ringing the bell … and is ultimately rewarded.  Question: is the swan trained, or did the swans train their handlers?

The direct link to the video is here. 

Also, here are a few other posts that caught my eye this week:

• Henry Blodget on Why Wall Street Always Blows It (The Atlantic).
• Are You Buying Now That Blood Is In the Streets?  Some Scary Predictions (Fortune).
• Human Interest Twist to the Recent Financial Crisis in "Profiles in Panic" (Vanity Fair).

There was good and bad news in the market this week. The bad news was that the economy continued to suffer (for example, the worst job loss numbers in decades), and the good news was that the market went up anyway. In contrast to recent reactions, that's very good news. 

Something about the tempo of the market may have changed this week too. There were still a few big fast moves, however there were also longer periods of more natural trading.

I'm not saying that the bear market is over. It will probably take a lot more than this to have a meaningful long-term bottom. Nonetheless, we may have a nice intermediate term support area in place, and the possibility for a decent rally from here.

The Migration to Automated Trading:

For many years I was a discretionary trader.  That means I decided what
to buy and what to sell using the tools I thought gave me the best edge
for that trade.  Over time I relied more on technical analysis.  And,
now, my trading is done by automated systems. 

The use of so many
different algorithms provides an interesting perspective on the rhythm
of market.

For years, market charts reflected the collective fear and greed of market participants.  Likewise, the patterns from one generation are not much different than the patterns from a different generation of traders; not because the world hadn't changed, but because human nature hadn't changed.

People still traded with people.  When prices got too high, a certain percentage of people decided to sell.  When prices started to go down, some people got fearful – and as prices continued to go down, other people got greedy and decide to buy.  In other words, human nature is human nature; and while the magnitude of the moves may change a little, the basic pattern, the shapes and the slopes probably have remained relatively consistent for millennia.

The Markets Are Changing:

Now, however, something different is beginning to happen.  A greater percentage of the daily trading volume results from computer trading and automated models.  Consequently, more trades are happening outside the influence of fear and greed.  This means that the shapes and the basic nature of trading patterns are bound to change.

It is early in this cycle.  Think about the Internet in the early 1990s.  Looking back, it all makes sense.  Yet in 1995, did you imagine this (how radically research, media, information delivery, media, and commerce would change)?  The game is changing.  Investing will never be the same again.

There was good and bad news in the market this week. The bad news was that the economy continued to suffer (for example, the worst job loss numbers in decades), and the good news was that the market went up anyway. In contrast to recent reactions, that's very good news. 

Something about the tempo of the market may have changed this week too. There were still a few big fast moves, however there were also longer periods of more natural trading.

I'm not saying that the bear market is over. It will probably take a lot more than this to have a meaningful long-term bottom. Nonetheless, we may have a nice intermediate term support area in place, and the possibility for a decent rally from here.

The Migration to Automated Trading:

For many years I was a discretionary trader.  That means I decided what
to buy and what to sell using the tools I thought gave me the best edge
for that trade.  Over time I relied more on technical analysis.  And,
now, my trading is done by automated systems. 

The use of so many
different algorithms provides an interesting perspective on the rhythm
of market.

For years, market charts reflected the collective fear and greed of market participants.  Likewise, the patterns from one generation are not much different than the patterns from a different generation of traders; not because the world hadn't changed, but because human nature hadn't changed.

People still traded with people.  When prices got too high, a certain percentage of people decided to sell.  When prices started to go down, some people got fearful – and as prices continued to go down, other people got greedy and decide to buy.  In other words, human nature is human nature; and while the magnitude of the moves may change a little, the basic pattern, the shapes and the slopes probably have remained relatively consistent for millennia.

The Markets Are Changing:

Now, however, something different is beginning to happen.  A greater percentage of the daily trading volume results from computer trading and automated models.  Consequently, more trades are happening outside the influence of fear and greed.  This means that the shapes and the basic nature of trading patterns are bound to change.

It is early in this cycle.  Think about the Internet in the early 1990s.  Looking back, it all makes sense.  Yet in 1995, did you imagine this (how radically research, media, information delivery, media, and commerce would change)?  The game is changing.  Investing will never be the same again.

Will Consumers Be Naughty or Nice This Holiday Season?  There was a lot of commentary on the start of holiday season sales this week.  The WSJ notes that bargain-hunters turned out in force for the "Black Friday" pre-dawn store openings and sales, but the annual frenzy was tempered by cautious buying amid the economic downturn. American consumers say they are less interested in consuming than at any other time in the past four decades. Still, the tone has been cautiously optimistic, so far, with the belief that more shopping is will shift online, even though online sales for the first three weeks of November are down 4% from last year.  In a related article, the NYTimes suggests that TV sales are becoming the litmus test for U.S. economy, and offers a glimpse of the
broader tensions between cautious consumers and desperate retailers.

Still, the Market has gained 21% since its low made five trading days ago (when the S&P 500 hit a new low for this bear market and touched levels last seen in 1997).  Many attribute this week's rally to some significant Government actions, such as:

• a rescue of Citigroup,
• the unveiling of President-elect Obama's economic team, and
• an $800 billion plan of attack to un-freeze lending to consumers.

The Most Volatile Market Ever.

According to Bespoke, over the last 50 trading days, the average absolute daily percentage change of the S&P 500 has been 3.82%!  That means the S&P 500 is averaging a daily move of up or down nearly 4%.  This is definitely one of the craziest (yet most telling) statistics of the current bear market, and unfortunately, the majority of the daily moves have been down.  In the history of the S&P 500, there has never been a more volatile period.  The closest other period was in the early 1930s.  In contrast, back in February of last year, the 50-day average absolute change was just 0.33%.  Here is a chart that illustrates the spike in volatility.

What about Sentiment?  Well, the CBOE Volatility Index (VIX) has moved beneath its 50-day moving average for the first time in almost three months. Given the inverse relationship between the VIX and stocks, some read this as a bullish sign.

SentimenTrader's Smart-Dumb Money indicator.  The Markets may still have some room to downside.  Yet, in contrast to the bearish bets made by small traders, recent Commitments of Traders reports (and other indicators) show that large commercial hedgers (aka the "Smart Money") are quite bullish. 

Historically, a confidence spread this wide only happens once or twice a year.  Nonetheless, this is the fourth time we had such a sentiment spread this year.  In practice, the Confidence Indexes rarely get below 30% or above 70%.  Usually, they stay between 40% and 60%.  When they move outside of those bands, it's time to pay attention. The chart above shows that substantial bullish reversals often happen when this occurs.

What Does This Say About the Spirit of Our Times?  This may not be market commentary but it might show the zeitgeist of the business climate.  McDonald’s wants to patent how it makes a hot sandwich.  I guess that is the other side of the coin from when McDonald's got sued by someone who got burned when they spilled a 49-cent cup of coffee in their own lap.

Will Consumers Be Naughty or Nice This Holiday Season?  There was a lot of commentary on the start of holiday season sales this week.  The WSJ notes that bargain-hunters turned out in force for the "Black Friday" pre-dawn store openings and sales, but the annual frenzy was tempered by cautious buying amid the economic downturn. American consumers say they are less interested in consuming than at any other time in the past four decades. Still, the tone has been cautiously optimistic, so far, with the belief that more shopping is will shift online, even though online sales for the first three weeks of November are down 4% from last year.  In a related article, the NYTimes suggests that TV sales are becoming the litmus test for U.S. economy, and offers a glimpse of the
broader tensions between cautious consumers and desperate retailers.

Still, the Market has gained 21% since its low made five trading days ago (when the S&P 500 hit a new low for this bear market and touched levels last seen in 1997).  Many attribute this week's rally to some significant Government actions, such as:

• a rescue of Citigroup,
• the unveiling of President-elect Obama's economic team, and
• an $800 billion plan of attack to un-freeze lending to consumers.

The Most Volatile Market Ever.

According to Bespoke, over the last 50 trading days, the average absolute daily percentage change of the S&P 500 has been 3.82%!  That means the S&P 500 is averaging a daily move of up or down nearly 4%.  This is definitely one of the craziest (yet most telling) statistics of the current bear market, and unfortunately, the majority of the daily moves have been down.  In the history of the S&P 500, there has never been a more volatile period.  The closest other period was in the early 1930s.  In contrast, back in February of last year, the 50-day average absolute change was just 0.33%.  Here is a chart that illustrates the spike in volatility.

What about Sentiment?  Well, the CBOE Volatility Index (VIX) has moved beneath its 50-day moving average for the first time in almost three months. Given the inverse relationship between the VIX and stocks, some read this as a bullish sign.

SentimenTrader's Smart-Dumb Money indicator.  The Markets may still have some room to downside.  Yet, in contrast to the bearish bets made by small traders, recent Commitments of Traders reports (and other indicators) show that large commercial hedgers (aka the "Smart Money") are quite bullish. 

Historically, a confidence spread this wide only happens once or twice a year.  Nonetheless, this is the fourth time we had such a sentiment spread this year.  In practice, the Confidence Indexes rarely get below 30% or above 70%.  Usually, they stay between 40% and 60%.  When they move outside of those bands, it's time to pay attention. The chart above shows that substantial bullish reversals often happen when this occurs.

What Does This Say About the Spirit of Our Times?  This may not be market commentary but it might show the zeitgeist of the business climate.  McDonald’s wants to patent how it makes a hot sandwich.  I guess that is the other side of the coin from when McDonald's got sued by someone who got burned when they spilled a 49-cent cup of coffee in their own lap.

The market is weak right now.  How do I know?  Aside from the near-audible moan of the world's collective unconscious, price going down is a pretty good primary indicator.  Kidding aside, other indicators are worth looking at here too.  One of them is the NYSE High-Low line. 

The following chart shows this market breadth indicator.  It is calculated at
the end of each day by taking the number of NYSE stocks making New 52-week
Highs and subtracting the number of stocks making New
52-week Lows. What is important to notice is the shape of the line – up is strong (or
bullish), down is weak (or bearish).  Sometimes a picture is worth a
thousand words. 

You can view updated versions of this chart anytime on StockCharts.com at this link.

Advice For the Markets: Stop It!

So, what should the markets do next?  At this point, humor seems appropriate. I saw this clip of Bob Newhart from Mad TV, last week, and it made me laugh.

Sometimes laughter is the best medicine.

The market is weak right now.  How do I know?  Aside from the near-audible moan of the world's collective unconscious, price going down is a pretty good primary indicator.  Kidding aside, other indicators are worth looking at here too.  One of them is the NYSE High-Low line. 

The following chart shows this market breadth indicator.  It is calculated at
the end of each day by taking the number of NYSE stocks making New 52-week
Highs and subtracting the number of stocks making New
52-week Lows. What is important to notice is the shape of the line – up is strong (or
bullish), down is weak (or bearish).  Sometimes a picture is worth a
thousand words. 

You can view updated versions of this chart anytime on StockCharts.com at this link.

Advice For the Markets: Stop It!

So, what should the markets do next?  At this point, humor seems appropriate. I saw this clip of Bob Newhart from Mad TV, last week, and it made me laugh.

Sometimes laughter is the best medicine.

This was a big week for questions (and not so much for answers).  The Market is good at that.

For example, did we just witness another successful retest of recent market lows, or are we just at the bottom again? 

Are you surprised that GM's share price is at lows not seen since 1943?  If not, were you surprised they wanted in on the Bail-out too?  How surprised were you that the Bail-out isn't proceeding as planned?  Do you wonder whether Depression Economics is returning? 

Many people believe that the finance sector is an early indicator for the market in general. This was a tough week for finance sector stocks. Yet, many stocks in that sector made spike bottoms.  This is something I am watching.

Still, volatility remains high, and I take that as a sign of bear markets.  In the chart below, which shows the S&P 500 Index, the green line represents the index itself; and the red line shows the daily percent change in that Index, illustrating how volatility has increased recently.

(via Investment Postcards)

The Cloud Hanging Over the Markets:

People look for scapegoats During market troughs.  One of the first places they are looking now is the hedge fund industry.  What follows is a Wordle "word cloud" created from the text of the Congressional hearings held last week.

I loaded the text of the hearings to the site; so, Click this link to play with this Word Cloud.

Ultimately, the markets are having a tough time world-wide.  If you are standing in the rain, you are going to get wet.  Well, it rained a lot this year.  Take a look at this chart that shows the distribution of yearly returns in the US.  Hint: look at the bottom left of the graphic to find this year.

(hat-tip to Howard Lindzon)

With markets performing so poorly here, and world-wide, It is not surprising that the demand for gold is rising in China or Saudi Arabia.

This was a big week for questions (and not so much for answers).  The Market is good at that.

For example, did we just witness another successful retest of recent market lows, or are we just at the bottom again? 

Are you surprised that GM's share price is at lows not seen since 1943?  If not, were you surprised they wanted in on the Bail-out too?  How surprised were you that the Bail-out isn't proceeding as planned?  Do you wonder whether Depression Economics is returning? 

Many people believe that the finance sector is an early indicator for the market in general. This was a tough week for finance sector stocks. Yet, many stocks in that sector made spike bottoms.  This is something I am watching.

Still, volatility remains high, and I take that as a sign of bear markets.  In the chart below, which shows the S&P 500 Index, the green line represents the index itself; and the red line shows the daily percent change in that Index, illustrating how volatility has increased recently.

(via Investment Postcards)

The Cloud Hanging Over the Markets:

People look for scapegoats During market troughs.  One of the first places they are looking now is the hedge fund industry.  What follows is a Wordle "word cloud" created from the text of the Congressional hearings held last week.

I loaded the text of the hearings to the site; so, Click this link to play with this Word Cloud.

Ultimately, the markets are having a tough time world-wide.  If you are standing in the rain, you are going to get wet.  Well, it rained a lot this year.  Take a look at this chart that shows the distribution of yearly returns in the US.  Hint: look at the bottom left of the graphic to find this year.

(hat-tip to Howard Lindzon)

With markets performing so poorly here, and world-wide, It is not surprising that the demand for gold is rising in China or Saudi Arabia.