Sunday, January 2, 2011

Momentum is the root cause of a stock's surge in price?

Plain and simple, if you believe in this (momentum trading) attitude of making money then you've got the game backwards and are probably still looking at the future in hopes of creating the right system and set of rules of how to correctly buy a stock on the way up with the use of charts as your guideline. LMFAO! This is the biggest illusion in the chart trader's gambling mind. Sure a rise in a stock looks great in hindsight and the momentum seems so obvious when looking back in time but that sure isn't the case when you've tried it. Don't believe me? Then please once again go right ahead and take as much time as you need and I can bet anyone any amount of dollars that as the mistakes pile up, one will continuously change and restructure their theory so that it can explain why they kept getting it wrong in the past and how to avoid making that same mistake in the future. Unknowingly to the aspiring mind of this person who wants to do this for a living so badly, this idea of learning from your mistakes (as so diligently advocated by these subscription based websites and guru teacher's who want you to trade for their prop shop firms so that they make a business out of your trading back and forth) will continue to dis-illusion the trader into believing he will eventually get it right because he is learning, and learning takes time and flexibility right? WRONG! And please let me explain why this strategy of chasing a stock based on price and volume (otherwise known as momentum) is not the result of buying stocks on the move but instead extreme discipline and calculated money management. That will also explain why gamblers seem to go some time successfully scalping .05 - .10, to .20 on stocks that are in play with high amounts of volume and price volatility when instead they could have had the same success trading stocks that trade in a natural $1 - $2 range. (It's also quite hilarious when looking at a trade sheet of one of these traders as they continuously make such small amounts of gains on these stocks that have notable interested buying and at the end of the day the stock ends up $5 dollars higher. One might ask why didn't you just hold the stock and why did you keep trading for .10 and .20? The traders will argue that there was no way to know it was going to be up $5 dollars on the day, and I say they're right since they don't understand why the stock is up at all because they are engulfed in the idea of chart trading which holds 0 relevance as to why stocks exist and trade in the first place.) Momentum is not the cause of a stocks move but instead its an affect , and an affect as we all know is the sum of all output and energy not the cause of it. Let me explain a situation so the illustration is clear.

Larger companies like AAPL and CMG, although high flying stocks by nature due to elements I won't talk about here, are excluded from this example because I want to make a point about stocks that have smaller market caps and can be moved inside of a decision made by one decent fund. But I won't use a stock example that trades under a $1,000,000 per day in dollar volume because of the wide spreads between the bids and offers that can make the stock seem tradeable to the naked eye but experience will show you that being able to step in front of large orders that are sometimes placed in a blink of an eye are not realistic.

Let's say company XYZ trades 3 million dollar shares a day. Hedge fund ABC gets a note from an insider or friend that company XYZ has good news and numbers coming out next week. Hedge fund ABC decides that they will invest $30 million dollars in company XYZ but they don't wish to do it all in one day since it might be difficult to maintain the attractive $5 dollars a share they wish to recieve. (Just remember that this example so far alone already debunks the idea that stocks move up based on momentum but instead some logical, or in some cases illogical factors based on hope, trust and deception) They also decide that if it takes longer than a week to acquire these shares then they risk rumors and other insiders getting the information and the price may get away from them as the super computer algorithms and the nosey ass quant strategies begin to take advantage of these alarming statistics when the fund begins its first day of operations.

So the fund begins its buying and the order is placed with a specialist who tries to buy the first $10 million dollars worth on Monday which brings that day's volume naturally to 5 million shares. Now lets say the fund was able to acquire his shares anywhere between $5 - $5.35 that day. Now the end of the day brainwashed day traders begin their systematic scans of stocks up 5% on the day and 75% increase the average volume. Now the degenerate gamblers are ready. Company XYZ opens up at $5.40 the next day due to macro market factors and some specifically interested pre(Lets keep something in mind here and that's that these smaller company's numbers are a lot more unpredictable since coverage of such companies and their sources of revenue can be less consistent. These small companies will sell stock at times in an attempt to help polish their balance sheets and the whole concept is just a mess imo and you can never trust their numbers unless you've truly done your homework, in which none of this buying would be a surprise or a guess anyway.) They must make this trade since the commitment to ideas and emotions are not isolated to individual trading minds alone. So the stock hits $5.50 Tuesday afternoon with above average volume coming from many sources but still none from fund ABC. The close is getting near and the opportunity is slipping away. The fund moves in with $100,000 clip buys every 10 min for the last three hours of trading to meet their quota. By then the price is moving up in .10 increments making it harder for the fund to continue their high probable idea since they know the unexpected news and numbers coming out in the next week are trying to be anticipated by those who are trying to buy the stock based on many different rumors and ideas, we call these guys over-night traders. So in hopes fund ABC being able to get their $45 million dollar investment (which btw if your smart enough to do your due diligence you'll probably learn that the fund is actually getting paid and reimbursed for purchasing common shares of company XYZ through some type of scheme one way or another) it decides to not take breaks in their buying because now they think the rumors are spreading like wildfire and the price can only go higher from here. The rest of the price move becomes history as daytraders and computers all over the world try to front run and guess what will happen next using nothing more than math and lines on a chart. So the idiotic reason these daytraders are buying have nothing to do with higher prices, so their disillusioned drawings were mere coincidences.

Just remember how easy it is for the fund to pull the plug and stop buying at any moment which would make the move more unpredictable since it wasn't based on anything solid. Therefore if momentum was to be considered as a valid theory or trading strategy one would have to assume that prices would need exact calculations based on laws such as the law of gravity. And since humans cannot be defined to one set of rules because we're emotional and our decisions can vary based on unpredictable emotional factors its fair to conclude that momentum is nothing more than an idea. To make my point clear, what I'm trying to say is that momentum is an affect and impossible to understand in a stand alone fashion. So the idea that your trading off of momentum is nothing more than a mere idea and a guess.

P.S. Just about 2 years ago when you use to type in the words "stock charts" in google there were probably only a couple hundred thousand results. Now 23 million! We now have a society of less intelligent investors ignoring information and news and now more charts that will help them predict the future. LMFAO!

1 comment:

  1. Humor me and read my defense of your thesis here:

    You joke about 'technical analysis' becoming a recent phenomenon, but you don't cite any evidence. In fact, the earliest form of technical analysis can be traced back to the first millennium B.C. in ancient Babylonia by recording commodity prices and compare them to seasonal events to predict future changes (Lo and Hasanhodzic, 2010). You're telling me there has been no advance since then? You're telling me that seasonality affects nothing as far as price goes? And if you DO agree with me on that point, would it not be logical to draw out a chart and find similarities in order to predict future prices, so long as seasonality continues? This is one example.

    Also - tip: the small text and "walloftext" format you use in your posts is difficult to read, but that's just my opinion, and, the "LMFAO!" antics don't really add to your argument, they just make me think like I shouldn't even be wasting my time posting, because, based on my "technical analysis" of your blog, I can expect a similar response.