The Madness
of Markets
By Duru
December 5,
2004
I have wanted
to write a piece like this for quite some time. I find investigating and
analyzing the market's madness both entertaining and educational (and even occasionally
profitable - imagine that!). I am always reminded of how inefficient the market can
be at pricing equities as it lurches and spikes in bursts of emotion focused on
short-term events. Like a kid seeking instant gratification, the market often
loses sight of longer-term trends and developments that are much more important
than the day's latest drama.
The charts
(from TC2000) below are all recent examples of stocks that first reacted poorly
to earnings events only to recover those losses in the following hours, days,
or weeks. Use these examples of reminders of why it is important to develop
your own convictions about your trades and investments before the market forces
you to react in the same trigger-happy way it is acting. Of course, certain
trading strategies require you to respond immediately. But just as you should
move with the dominant trends when trading on technical grounds, you should at
least give longer term fundamentals a moment's consideration before following
the previous hour's consensus. If you are looking over the horizon and toward
the greener grasses, then these charts should resonate with your sense of
indignation at the churn caused by instant gratification.
Certainly,
this presentation is hindered by selection bias. I could just as easily throw
up four charts where the market's instant reaction stamped a long-lasting
impression in the foreheads of any suckers who chose to continue the fight. So,
please treat this as an educational tool and not as a proof of any particular
market theory! Even more importantly, nothing in these charts should be
construed as advice to buy or sell any stock. Final disclosure: I hold a hedged
position in OVTI and have held positions in all of the other stocks excluding
MCHP at various times this year.
State Street
has been trapped in a persistent downtrend all year, and the stock has still
not broken out of this malaise. However, the latest earnings report took the
stock down to news lows in a very climactic way. That is, volume far exceeded
anything seen all year. Unlike the prior earnings report that also featured
record-breaking volumes, the stock quickly recovered the same day and went on
to recover all losses within a week. Only time will tell whether the sellers
have finally capitulated and left the building.
FORM is one
amazing stock. It has now hit all-time highs but the road to these lofty levels
has been far from straightforward. There is obviously a strong foundation of
buyers who really believe in this stock. These buyers have stepped in at very
critical moments of late as shown above. If you did not maintain your conviction
on this company, the market would have shaken you out several times…and probably
destroyed your confidence in the process.
OVTI is the
classic "manic" stock. In the moment, the stock seems extremely
volatile and erratic. But take a step back, and you can see that it has very
strong trending tendencies. Note well the spikes in volume as various drama
unfolded. The buyers are slowly but surely wrestling control away from the
sellers. You can almost feel the confidence in this company rebuilding.
I have not
observed MCHP as long as the other stocks featured in this piece, however, I
was intrigued by this one because despite the intense short-term drama that
often surrounds this stock, it has essentially gone nowhere for a year and a
half. Something told me that the latest drama would generate as mixed a
response as ever. Sure enough, after the sellers were done with their usual
panic, the buyers stepped up and recovered most if not all losses. Hard to say
where this one is going next, but if history is any guide, you can find it
here, same bat-channel, in another three months or so. If you are looking to
develop some sort of conviction on this one, the key is to figure out what
exactly does the market want to hear, and what exactly is it most afraid of?
I plan to do
more of these in the near future from time-to-time. If nothing else, I hope they can help
some of you firm up your ability to cope with the madness of the markets.
Be careful out
there!