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Delays, from Victor Niederhoffer

One of the most common phenomena that those of us who trade every day face is the delayed reaction to an event. Nothing happens when you expect it. For example the positive Employment number, seemingly so bullish, was greeted with a 1% decline from open to close on Friday. and now the election, which on the surface seems to create so much uncertainty among investors, especially vis a vis discredit of the Administration through impeachment forays and propaganda.

These delays in electric circuits are called hysteresis and I've discussed the various negative feedback loops and components that ordinarily are used to create same for practical purposes, e.g. in the Schmidt Trigger, which is very succinctly reviewed in the excellent book by Michael Merchant, Exploring Electronics Techniques and Troubleshooting.

I wonder what the general concomitants or preconditions for a delayed reaction are, whether they are predictable, and whether the seemingly fantastic positive response to the recent Democratic sweep, which was 16-1 on TradeSports from 9:45 am on Wed, Nov 7, and continuously higher at all times subsequent until the current finalization as of 11:00 pm, Nov 7, will be an example of the beaten-favorite/hysteretic reaction, and whether such delays can be predicted with similar events regarding individual stocks and or economic announcements.

Gary Rogan observes:

I don't know how to quantify it but this has been my observation: often if a person or a group of people are acting out of negative emotions, such as anger, frustration, irritation, or boredom after a forced delay, they will go further than a rational observer will expect. Thus delayed action based on negative emotions seems related to hysteresis by overshooting the rational point. The voters have acted out of delayed frustration, so there is hysteresis involved in how that carried over to the markets to the extent that some of the voters are also investors. However when the realization sets in that Nancy and Chuckie will be acting out of a bit of their own frustration, and their "rational" point is a bit displaced from Adam Smith's to begin with, I predict there will be a bit of a chill in the equity markets and it will last for a while. On a separate note, the more "bi-partisan" Bush acts, the lower the markets will go.

Jay Pasch adds:

This election day reaction is reminiscent of FOMC report days but with a wider timeframe; it so often 'seems' on FOMC announcement days there is an immediate reaction, then a brief counter move, followed by the real deal, a trending move in the direction of the initial reaction. Admittedly descriptive and uncounted...

Rick Foust replies:

Years ago, when I watched tick by tick, I noticed the same pattern on FOMC days. A quick knee jerk, then a larger head fake, and then an extended run in the direction of the knee jerk. I suspect it also happens in longer time frames for larger events (such as elections).

The knee jerk could be up or down. It usually lasted only moments and could sometimes only be seen on a tick chart. The head fake was a longer movement in the opposite direction and lasted a few minutes. The final move typically finished out the day. The duration and magnitude of the moves varied from time to time. These were days when the the market treaded water waiting for the the Fed to announce the next interest rate move.

This three step process reminds me of a simple but effective Judo technique. First comes a quick and subtle jerk to freeze the uke (throwee). Then a push to get the uke to instinctively lean against the push and into the throw. Lastly, a long pull to guide the uke through his flight.

A 16 year old Japanese girl appeared at our dujo one day. I had worked with girls before, and I had learned to go easy on them. She was a foot shorter and a 100 pounds lighter. As a warm up, we were to alternate practice throwing each other. Being of the highest rank, she went first. Even though she was a blackbelt, I expected to have to help her throw me (that is, jump). Suddenly, and without warning, I found myself doing an airborne somersault. A split second after that I was lying on my back looking up at her with an astonished look. Her execution had been so skillful that all I had felt was a bump and then weightlessness.

The key to most Judo throws is to stiffen and off balance the uke, fix one part of their body in place and then rotate the rest of the body about the fixed point. A well-executed Judo throw relies more on finesse than strength.

Scott Brooks replies:

I believe the question that Victor is asking is "how do we know how the masses are going to react to news or an event that is possibly a surprise, or at least, not known in advance.

I'll let those who are better counters than me handle the quant side of this. I'd like to explore the personal side of it.

How do I (or you) choose to react to an unexpected event or news. As investment professionals, or as speculators running our own money, I believe that one of the things that is incumbent upon all of us is to be prepared for the unexpected. One of the ways we can do that is to know the numbers....to calculate in advance what are the odds of "X" happening, and if it does, what are the most likely resulting reactions to follow....then....

What do we do from there? There is nothing worse than not being prepared.

My secretary (excuse me, she prefers to be called my "executive assistant") has asked me on more than one occasion if I'm going to be doing any work that day. She'll walk into my office and catch me staring up at the ceiling, or just passing around my conference table, making hand gestures at invisible people.

I tell her, "I am working". I'm role playing in my mind scenario's. I'm trying to cover every possible path the scenario may take. I'm trying to see problems before they occur, and then figure out how to solve them...but solve them in my mind before they actually happen so I don't have to deal with the unexpected later....and if I can't find a solution, I ditch that course of action and move on.

Since I'm up at the farm deer hunting this month, I'll use a deer hunting analogy.

One of the biggest problems that many hunters have is buck fever. When they see a big buck, they come unglued. They can't stabilize the gun, they can't concentrate or hold the crosshairs on the vitals, and in some cases, get so nervous that they can't even raise their gun. In some cases their knee's shake so bad that they can't even stand.

I have never had that problem. Oh sure, when I see a deer, I get excited. If its the buck that I'm looking for, my heart may skip a beat and leap up into my throat.

But then I go into the zone. My mind focuses in on the task at hand. I begin to assess the situation. I wait for the right moment and BAM. I do what I came out to do.

Why is this so seemingly easy for me to do? Because I've killed that buck thousands of times in my mind before the moment of truth came. I've visualized him coming from that exact direction hundreds of times. I know every possible path he could take before moving into a killing position. I've falsified hundreds of situations in my mind and role played them to figure out how to overcome the obstacles (i.e. is the buck alone, or is there another deer with him? What is the wind....blowing to or away from him? etc.).

I practice in my mind slowly squeezing the release on my bow and watching the arrow leap forward at 300 fps right toward his vitals, or slowly squeezing the trigger while staring at the crosshairs right on the bucks shoulder and actually seeing the bullet (thru the scope) hit the deer at the exact spot where I was aiming.

You see, just like I don't know exactly where the deer is going to come from, or exactly what the conditions are going to be when he shows up, market events and news comes at us from unexpected directions and brings unexpected ramifications.

We simply don't know what to expect....but we can role play what to do, have a playbook (that we've thoroughly memorized) ready to tell us what to do, and then execute the appropriate play to give us the highest probability of harvesting the big bucks!

Steve Bal replies:

This would suggest that the news makes the markets. I would suggest that the news is in fact talking points - just as some individuals believed that Kerry's mix up of words would hurt the democratic vote (which we now know did not happen).

I do not trade every day but for some reason watch the business news regarding this number or that coming out. Further, it now appears that revisions happen more often than not (even if not true I believe it) and thus I may act upon it.

Individuals have different trading time frames, along with different strategies. It is times when multiple time frames for individuals coincide that markets can move. This is not support for cycle trading but a recognition of different trading motives. As new news comes into the market, traders then attempt to mesh with older news to reinforce their views of future market direction.

As Vic had previously pointed out when a big pharma increased their dividend (mostly dividend collectors noticed) a few days later they announced a big jump in earnings and the stock promptly moved. Everyone needs some form of extra comfort.

The collective consequences of many traders (individuals) often defy intuition.