Posts filed under “Trading”

The Recency Effect & Investors

What do gold prices, a stock-market plunge and a credit crisis have in common? The way investors tend to see them are examples of the “recency effect.

A brief description first: In human psychology, people who are asked to recall items on a long list tend to have a sharper memory of the items toward the end. This is a function of finite memory capacity — you can’t remember everything, so you recall the more recent items.

From an evolutionary perspective, this makes some sense. Focusing on what happened some time ago while imminent threats exist probably isn’t the ideal survival strategy. The most recent threats are likely the more dangerous ones to your ability to procreate and pass on your DNA.

We see this manifest itself in investing in a related, albeit more nuanced way. Just to cite a few examples: Puerto Rico’s default is the new Greece; auto loans are the next subprime credit collapse; student debt is the next economic crisis.

All of these are demonstrably untrue (“So far!,” go the cries from the peanut gallery, where the recency effect is in full bloom). The issues resonate, because these events are a) recent and b) they traumatized many investors.

Trauma may be the key to understanding investment-related recency effects. In investing, it isn’t just the most recent events that stand out; it’s events of greater psychological or emotional weight that leave the more lasting mark.

Perhaps this emotional component is why so many people tend to make grotesque exaggerations and extrapolate in ways that lead to some truly awful forecasts. The credit crisis of 2008-09 means another, bigger market crash is just around the corner. The 41 percent drop in the value of the dollar from 2001 to 2008 means the end of the fiat currencies is nigh. Hyperinflation is coming! Buy gold!


Other examples abound: In 2014, motivational speaker Tony Robbinstouted a portfolio that emphasized gold, commodities and bonds — after all of those had completed epic runs. All have since underperformed. Then there are those who insist that not only has there been no recovery in the U.S., but that we’re are still in a recession – even though the recession ended in June 2009. That fact just doesn’t matter to these people.

We give some of the least rational people a prominence and respect that is undeserved. All of those bets on gold — because, you know, we can’t trust the system and the world is going to end — are perfect examples. Of course, these bets surged in popularity AFTER the credit crisis. But where was everyone before the 57 percent drop in the Standard & Poor’s 500 Index? Long the stock market?

One of my favorite examples of the traumatic aspect of the recency effect involves the 1987 crash. In October 2007, on the 20th anniversary of Black Monday and the 508-point one-day plunge in the Dow Jones Industrial Average, the Wall Street Journal discussed the odds of a comparable crash. In “Exorcising Ghosts of Octobers Past” the trauma of ‘87 had faded among investors, replaced by the optimism of the most recent five years of market gains. Another crash on the scale of 1987 seemed farfetched. As it turned out, that article ran four days before the stock market reached a record high — and two months before the Great Recession began.

Fast forward a few years to a new trauma, the so-called Flash Crash, when in the course of less than an hour the Dow tumbled almost 1,000 points. Once again, the Wall Street Journal invoked the 1987 crash in an article titled “How the ‘Flash Crash’ Echoed Black Monday,” noting “the May 6 selloff had parallels to 1987.”

So which is it: Is a repeat of 1987 almost impossible, as investors seemed to think in 2007, or is it likely, as they thought in 2010? The answer is, It depends upon when you ask and what traumatic or emotional event just happened. That is the recency effect in action.

It behooves traders to ask themselves what has happened recently, and how that affects their judgment. Failing to do so increases the odds that recent events, perhaps with little relevance to what happens next, will color how they see markets.


Originally published here: Confusing What Just Happened With What Happens Next




Category: Cognitive Foibles, Psychology, Trading

Gold Can’t Find a Bid

This was the week Greece inched closest to chaos, as a bank holiday and a technical default caused markets around the world to erupt in turmoil. They recovered somewhat Tuesday, and futures looked stronger Wednesday morning, but on Monday, the NASDAQ Composite Index lost 2.4 percent, the Standard & Poor’s 500 Index lost 2.09 percent and the…Read More

Category: Gold & Precious Metals, Really, really bad calls, Trading

Looking for for Volatility in All the Wrong Places

Where has all the stock market volatility gone? U.S. equities have been surprisingly quite the past three years. There hasn’t been a one-day change of 2 percent or more in the Standard & Poor’s 500 Index since December, Bloomberg News reported. Data compiled by Bloomberg and Deutsche Bank AG note that this is the longest such streak…Read More

Category: Data Analysis, Fixed Income/Interest Rates, Markets, Trading

Futures: New Layout at Bloomberg

I really like the clean web layout for Bloomberg Futures (free):   click for updated futures    

Category: Trading, Web/Tech

Flash Crash a Perfect Storm for Markets

Great couple of graphics from the WSJ this AM. This is the simple version, a short explanatory overlaid on a graph:   Perfect Storm click for ginormous graphic Source: WSJ   The interactive version is far richer and more details as tot he minute by minute set up: Flash Crash’ a Perfect Storm for Markets click…Read More

Category: Markets, Really, really bad calls, Trading

Margin Debt Hits an All-Time High . . . So What?

Every now and again, a way of looking at markets suddenly gains traction. Data gets assembled, analyzed, reviewed. Eventually, it becomes the basis of traders’ decision-making process. It even can become part of Wall Street lore. The problem that arises all too often is that this approach is statistically bogus. The data gets cherry picked;…Read More

Category: Analysts, Really, really bad calls, Technical Analysis, Trading

How Spoofing Works

Source: WSJ

Category: Markets, Regulation, Technology, Trading

The Market Rhythm Deciphered

Source: @Trader_Dante

Category: Cycles, Humor, Psychology, Trading

Spoofing & the Flash Crash

Earlier this week a trader was arrested in London and accused of “spoofing.” What’s spoofing and what does it have to do 2010 flash crash? Bloomberg View’s Matt Levine explains

How ‘Spoofing’ Might Have Crashed the Market

Read More

Category: Legal, Trading, Video

Nikkei Dow > 20,000

Great discussion from my pal Peter Boockvar of the Lindsey Group on Japan: The Nikkei closed above 20,000 for the first time since April 2000. Optimism for corporate profitability, higher ROE’s, better corporate governance and a greater focus on satisfying shareholders, along with QE and a weak yen continues to drive performance that will likely…Read More

Category: Markets, Trading