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Posted 10/4/2001
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The Speculator
3 immutable laws and 12 sober truths
If it seems as though the markets play by their own set of rules, you’re right. Here’s what we -- and our readers -- have been able to glean.
By Victor Niederhoffer and Laurel Kenner
The market is infinitely deep and changeable. In one of its forms, it is a system designed to sustain the strong and the professional at the expense of the weak and the amateur. Like all such systems, it has developed many mechanisms for ensuring that the enormous cost of its upkeep will be covered by constant infusions of energy from the public.
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This becomes most clear at times of catastrophe, when all hope is lost just at the bottom.
Caught off guard by the market's moves, the unwary and the innocent sometimes may be heard to sigh with dismal resignation that certain things seem guaranteed to happen --- and never to their advantage.
Yet the trader is not without hope. By studying the opponent's habits and, perhaps, by learning from the observations presented below (part of a collection assembled over a long and sorrowful career in speculation), he or she may adapt well enough to eke out a profitable existence by challenging the market.
The 'guaranteeds'
Here, then, are things that we have observed to be guaranteed to happen.
- If you place an order to buy shares of an index fund at the close, the market will steadily rise to finish at a level not to be seen again for at least three months.
- If you buy one stock of a group found through a stock screen, that stock will be the only one that falls.
- If you decide to buy because the market has declined by a certain amount or to a certain level, it will keep falling until you decide to sell. Then it will rise.
- If the market rallies in the final hours of the day, it will fall at about the same time the next day. After a rise of a quarter of a percent or more in the last hour of the day, the average move in the last hour of the next day is a decline of about one-third of the previous rise.
- A market pattern broken one day is likely to resume at the next opportunity.
- In months where options expire late -- on the 20th or the 21st -- the market gets extra opportunity to shake out participants in the days that precede the expiration. Consider the weeks preceding expiration in the past three years. When options expired on the 20th or 21st, the S&P 500 futures contract was down an average of 20 points in the week preceding expiration. In months where expiration came before the 20th or 21st, the average decline was seven points in the week before expiration.
- Stocks of companies involved in disasters will decline immoderately in the preceding week, as was the case with Morgan Stanley (MWD, news, msgs), American International Group (AIG, news, msgs) and Boeing (BA, news, msgs) before the World Trade Center was destroyed Sept. 11. (Someone always knows.)
- Something bad will happen in your personal life just before a big decline in the market.
From our readers
We are fortunate to have some of the most perceptive speculators in the world among our readers, a few of whom kindly contributed their "guaranteed to happens" for general enlightenment and catharsis:
- After you have thoroughly tested a trading system, thereby convincing yourself that it will work to your satisfaction, and have consequently committed the maximum amount of capital to trading that system, it will produce a drawdown larger than any which have previously occurred. (From Art Cooper, Florida)
- After extreme ecological crises result in mass extinctions of large land species, the small, flexible survivors evolve to eventually occupy the niches emptied by the behemoths and predators. This was true at the close of the Permian, Triassic, Jurassic and Cretaceous periods, and we venture to predict that it is also true of markets. (From Robert Brearley, U.K.)
- Traders and investors will display the greatest concern for market psychology immediately before a substantial rally. (We note that Dr. Brett, who has an exceptionally calming and reasonable persona, often receives requests from the media for insight during ugly market declines. His skills were once again in demand just before last week's rally, when the Dow and S&P 500 rose 7.5%.)
- Calls for patriotic investing will become the last refuge of scoundrel sellers.
- If the government cannot indulge in the vice of printing money, it will find a way to make it a virtue.
- Citizens enjoying the security of freedom will trade the latter when the former is threatened.
- The words "freedom from" precede a grab for your wallet. Only "freedom to" is the currency of liberty.
Forecast
We are generally reluctant to issue market forecasts, as the market's moves from Tuesday (our deadline) to Thursday (our publication date) often have a greater expected variability than the small incremental accuracy of our forecasts. However, we would not expect an uninterrupted rise to this market.
A reader's inquiry
We received the following note in response to last week's column, and share it with permission from the sender.
- Laurel and Victor, I have been reading your
columns for a while now and sure enjoy them. Today's was especially
interesting and I was finally beginning to feel just a bit better about
things … and then I read an article by "Detox" columnist Peter Eavis in
TheStreet.com titled, "The Rout is Far From Over for Tech Stocks." Yuck!
And on CBS MarketWatch they had an article about David Tice and the
Prudent Bear Fund and how he is still extremely negative on the Nasdaq
as well. If possible, I sure would like your take. I really would value
your professional opinions on claims for Nasdaq 1150 -- and perhaps so
would many of your other faithful readers. –
L.H.
Dear L.H.,
Your message is revealing of the battle that's going on. I doubt that Mr. Detox knows what he's talking about when he says the market will suffer "once the Bush presidency starts to buckle under the stress of fighting an unwinnable war." Mr. Detox seems to be implying that we should just give up fighting the people who have vowed to kill us since, by his estimation, there's no way we can beat them. But that's not going to happen.
As for David Tice, he has been bearish since late 1995, thereby missing out on annual gains of 19.5% in 1996, 26.7% in 1997, 31% in 1998 and 20% in 1999. He has had a nice performance in 2000 and 2001 that almost made up for his losses in the previous few years.
Tice's five-year record is -3.4% a year. Compare that with the 9.8% annual gain for the S&P 500 ($INX) over the same period, which happens to be the same positive drift that the market has enjoyed for almost every overlapping 10-year period since at least 1926. Anybody who's wed to a particular approach will at some point be caught by the principle of ever-changing cycles. Vic and I believe that the market will roll on as it has for years and years, and we also believe that over time, the optimists win -- in the market and in life.
That said, we've entered a new, riskier era. It's definitely not a time to assume potentially crushing risks. (Speculators should never get in over their heads, even in the best of times.)
Best wishes,
Laurel
In appreciation
We'd like to thank our readers for the many beautiful responses to our article on our friend John Perry, the New York City police officer who died rescuing others in the World Trade Center disaster. Among them was a letter from Eric Thornberg of Los Angeles, who wrote:
- Thank you for sharing your story of John
Perry. I will never forget this story and the example he set for people
who think for themselves with a critical eye. If he has a spouse or
family, please tell them he did not die in vain -- he is a
hero.
End notes
We put our money where our mouth is and bought round lots of each of the low-priced companies mentioned in our Sept. 25 piece. Much criticism came via e-mail about the quality of the individual companies and their absence of current earnings. "Doesn't this mean that they are all technically overvalued?" was a typical query. We answered that Value Line gave these stocks its highest rankings for timeliness ("1" or "2", on a scale of 1 to 5) because of their earnings momentum and relative price performance. The average appreciation of the 11 stocks recommended, and our own profit to date, is 0.8%.
At the time of publication, neither Victor Niederhoffer nor Laurel Kenner owned any equities mentioned in this column.
MSN Money's editorial goal is to provide a forum for personal finance and investment ideas. Our articles, columns, message board posts and other features should not be construed as investment advice, nor does their appearance imply an endorsement by Microsoft of any specific security or trading strategy. An investor's best course of action must be based on individual circumstances.