Trend spotting
6. Image evolutions: additional aspects
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Let us watch the horizon to detect signals and factors preceding (or showing) a shift:
either in fundamentals (evolution of the business, of the economy...)
or in the image direction (upwards trend <=> downwards trend) inside its bracket in our A/B tables,
or in the image category (migration to another box = change of bracket, either because of the stock "life cycle" as seen in stock categories, or of a sudden shock).
Among other market watch tools, there are charts and technical analysis,
which look at price moves to try to spot market mood orientations.
Those techniques try to spot uptrends or downtrends in stock prices, and to find signals that would show if
those trends are going to persist or change in the next future.
Those tools might be useful but they are not foolproof. Better use it only as a complement of other analysis tools.
This site will not elaborate on those techniques, as the current fashion is such that there are an infinite quantity
of sites on that topic, some of them verging on the esoteric.
Thus, let us focus on other signals of trend evolutions (or more precisely on image evolutions).
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What plays a part here is our knowledge of:
the stock's fundamentals (estimated economic value),
Atypically, some stocks change dresses at each scene of the play.
Their image steps up or down a box and/or their volatility gets wild or calms down.
Example: the image of an "emerging stock":
* may take various orientations: zigzag on endlessly, stabilize, upgrade, or trip and decline.
* can even, taking into account the evolution of its fundamentals, mutate into a "steadily emerging stock",
or a "shooting star", or something else.
the ideal thing of course being ...to find growth stocks that are still not overpriced.
Obviously, whatever the strategy, any selection must start on a valuation that rest on a serious financial analysis.
Studies seems to show that on the long term, the first ones tend to outperform (*) the second ones.
That could be attributed:
* to fundamentals (a growth stocks risks a decline of fortune while an unattractive stock
might experience a recovery)
* also to behavioral aspects (fashions change, thus images change also).
(*) taking into account the total shareholder return or at least the return / volatility coefficient.
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Rises and falls in prices generally affect a whole country, a region of the planet, or the whole world.
Those moves contaminate, in a small or big way:
- Most EEVs. This "natural" contagion comes from the current information and the whole economy's prospects.
- Most images, and altogether, the general trend, which aggregates the evolutions of the average EEVs and average images of all listed stocks.
Here some findings of behavioral finance can be quite helpful. For example, the phenomena of underreaction - adjustment - overreaction (see this site's behavioral finance glossary) might explain the existence of trends / momentums.
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It is hard, for the stock market, to walk and chew its gum at the same time.
It fancies, one after another, in a kind of rotation, such or such business sector (market fads),
forgetting others that are appealing all the same.
When an industry such as electronics or pharmaceuticals is fashionable, often agribusiness or petroleum
is a bit neglected, and vice versa. Also when growth stocks are the craze, value stocks are ignored.
The stocks belonging to a given economic or financial category tend to rise or fall in unison,
faster or slower than the rest of the market.
Their image's evolution may either exaggerate or contradict the (estimated) evolution of the sector's fundamentals.
These "affinity driven" rises and falls may last months or years.
Often, the best known firms, or those most specialized in the sector, start the dance. The others follow after a delay.
We may note that the Liège University made researches that refine the spotting and utilization
of such correlated evolutions at: http://www.market-topology.com/
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Every firm is responsible for the clarity (readability / transparency) of what it does:
Unless they smell hidden prodigies, investors avoid firms on which they:
feel badly informed,
find their policy obscure
judge their activities overly diversified or complex to figure out their prospects,
Distrust takes place also
if there is often a wide margin between prior announcements and final results,
or if problems are reported with delays.
As much as some firms are secretive, others play the star system.
Their image may climb in audiometer ratings, then collapse if the market discovers that,
behind the shop front, things are less rosy.
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The market interprets more or less positively or negatively the current news concerning
- or seeming to concern - the firm.
At times also, it ignores the information, shows no interest, or gets totalized by it without reacting.
This rosy, black, "ostrichy" or dazed attitude, that change the perception of the real situation,
and of the events affecting it, is a component of the current stock image.
Thus, how to take into account events affecting not only the EEV (this is a matter of financial analysis),
but also the image?
Here, let us be wary of market's expectations (hopes or fears). Let us wonder if they are fuelled
by collective emotions, the market betting already too much on them (under-pricing, overpricing).
Let us feel if they are getting fragile: then the new events risk to be not strong enough
to fit these optimistic or pessimistic views.
1. If the events contradict the expectations (or the trend), image variations depend on
The event's importance,
The degree of surprise in respect with these expectations,
The strength of these investors' preconceptions and beliefs.
So, beware of the so-called "market consensus".
Paradoxically, the more enthusiastic or depressed it is, the highest
the probability of a turnaround from that direction.
Here are links to four "sentiment indicators", the fifth one quite original: [1].[2].[3].[4].[(5)].
They might be used as "contrarian" tools: some say that when the "bulls / bears" or "bears / bulls" ratio reaches 4, a reversal is highly probable in a short time, after a final burst of optimism / pessimism.
2. If the events fit the expectations, or the trend, a way to "sense" a reversal is to see how a
Northbound market or stock reacts to some fortuitous good news (or, inverting the reasoning,
when fortuitous bad news "falls" on a Southbound market).
- If the week (don't trust the sole first day technical / gut / trial and error reaction) experiences a new rise,
it shows that the number of adepts and their conviction build strength.
- But if, after a week, prices changed little, or went back to the pre-news level or, worse, went down,
some rats left the boat!
They dropped part of their holding, taking advantage of the swollen stocks' demand due to this "happy" news.
- Beware not to mix up these defections with some benign profit-takings following some expected good news,
even if there was some uncertainty.
3. An important thing, already seen above, is that the main cause of stock price trends seem to be that,
when the current situation or the future prospects, are changing, investors often 1) at first under-react,
2) then adjust progressively, 3) and at the end overreact.
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This page last update: 26/01/12 Back to [Image categories] Next: [New economy][Tales] |
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