Posts filed under “Trading”

Recalling the Smart Money Index

One of the articles in my morning reads yesterday was an intriguing story by the Wall Street Journal with the headline, “Why Morning Is the Worst Time to Trade Stocks.”

It reminded me of someone who in my early days in the 1990s was very formative in my philosophy of markets and investing: Don Hays. (See this 2001 Barron’s interview to get a flavor of his views). He was a big proponent of the Smart Money Index (SMI) — first described byLynn Elgert in the Feb. 22, 1988 issue of Barron’s — and is the person who is most often credited with popularizing it. We will get to the SMI shortly.

Several things made Hays a fascinating mentor to a green trader like me. First, he was a rocket scientist. That isn’t an exaggeration — Hays was a former aerospace engineer, and was part of the team that developed the Saturn rocket for NASA.

Second, Hays used what seemed to a younger (and thinner) me to be a very rational approach to markets. His philosophy was quantitative, evidence-based and data-driven. The framework he worked off of used four factors: trend, investor psychology, monetary conditions and valuation. It all seemed very reasonable, especially when compared with the touchy-feely approaches that were so popular elsewhere, especially among the punditocracy.

Last, it didn’t hurt that he was pretty much the most accurate market strategist in the 1990s. He successfully navigated the slowdown in 1994 when the Federal Reserve raised rates and the weakness in 1997-98 amid the collapse of Long-Term Capital Management. Hays stayed bullish until sounding a prescient warning in early 2000. He lost his touch in the 2000s, but let’s hold off on that story for another time.

Nevertheless, the Wall Street Journal article speaks to Hays’ fascination with the SMI.

The SMI is calculated by comparing the trading action of the Dow Jones Industrial Average during the first 30 minutes of the day versus the last hour before markets close. You can find updated versions of the index at Sentiment Trader.

I am unconvinced this still has much applicability in the modern era, but it is a good jumping off point for a broader discussion.

The first half hour of stock-market trading has been described as “dumb money.” It can be emotionally driven buying and selling, based on news flow or overseas action from the night before. Just think about it: How smart is trading based on what happened while you were sleeping? In a rising market, it engenders a sense of chasing market moves higher; as we have seen, those gains can and do often fade. In a down market, it leads to selling into weakness.

The flip side to this approach is end-of-day buying. It tends to be more pragmatic then emotional. It is often institutional in nature. Rather than making a decision driven by fleeting sentiment, institutions tend toward an investment posture that is executed according to a plan. The buying, often measured by metrics such as volume-weighted average price, can also be a ploy traders use to demonstrate to portfolio managers that they are getting the “best price.”

No two markets or periods in financial history are identical. The current era has seen a major shift in market structure, and perhaps a chastened public that’s less inclined to dabble. Maybe the SMI has been rendered obsolete, a victim of high-frequency trading, the declining importance of the Dow as an index and the shift toward exchange-traded funds. Regardless, it might pay dividends to pay attention to early and late widening of bid-ask spreads and understand what’s driving them. Pardon my cliche, but I wouldn’t necessarily say that the early bird gets the worm, though the second mouse does get the cheese.


Originally published as:  Being Late to a Trade May Not Be So Bad





Category: Sentiment, Technical Analysis, Trading

Thinking About Market Risk

Seeing the market crash from a few weeks ago, it is clear how quickly the market can ferociously hurdle in front of one’s risk models.  Risk models that failed to safeguard against risk when it mattered the most.  Models that left many large hedge funds hemorrhaging - top funds which by definition were supposed to protect their investors in the August…Read More

Category: Investing, Markets, Think Tank, Trading

Beware the Bounce!

The market professionals are returning from their long holiday vacations. That may explain why futures were looking so strong Tuesday morning and the market surged at the open, or it may beShanghai’s late rally that accounts for the brighter outlook. As we have seen, futes can tell us how the markets may open, but not how they are…Read More

Category: Markets, Technical Analysis, Trading

Melt Up!

I am always cautious about stocks that rally significantly after a major break of trend; futures are merely the early look, and we have seen several fades of strong futures. That said, +300 is pretty beefy: click for updated futures

Category: Markets, Trading

Simons: Mathematics, Common Sense, and Good Luck

James Simons – Mathematics, Common Sense, and Good Luck: My Life and Careers

Hat tip theirrelevantinvestor

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Category: Mathematics, Quantitative, Trading, Video

Are You a Trader or an Investor?

At the risk of overstating the obvious, there are important differences between traders and investors. Their timelines differ, as do their goals, preferred assets and methods. Yet some of what I have been hearing from members of each group suggests they themselves can sometimes become confused about these dissimilarities. Blame the recent market volatility for…Read More

Category: Asset Allocation, Investing, Psychology, Really, really bad calls, Trading

Investors: Another Chance to Clean Up Your Acts

      My Sunday Washington Post Business Section column is out. This morning, we follow up a June column that advised taking advantage of markets at all time highs to clean up your portfolios. This time out, we look at the market turmoil as a reminder, and the snapback rally as an opportunity. The print version…Read More

Category: Apprenticed Investor, Asset Allocation, Investing, Really, really bad calls, Trading

VVIX, and Something in China?

I found this chart, via Torsten Sløk of Deutsche Bank Securities. It is a quite fascinating look at the VVIX index. If you are unfamiliar with the VVIX, it is a measure of the volatility of the VIX, itself a volatility measure of the equity market. More precisely, it represents the expected volatility of the 30-day forward…Read More

Category: Markets, Technical Analysis, Trading

Oh, No! The Death Cross! (Never Mind . . . )

One of the themes we like to touch on in this column are heuristics. Myths that become Wall Street rules of thumb have existed for as long as there have been trading desks. They are legion, they pop up regularly and most of the time they are terribly wrong. Woe to the unwary trader who relies…Read More

Category: Markets, Technical Analysis, Trading

JPM’s Bear Markets

Today is as good a day as any to show this chart from my favorite quarterly slide deck:   click for ginormous graphic Source: JP Morgan

Category: Data Analysis, Markets, Trading