Randomness of Financial Markets and How can be treated

There is a book called “the random walk down wall street” written by Burton Malkiel. The author tries to discuss in this book if the Stocks market is really moving randomly or there is a pattern in its movement. He explained the four phases of the market which are known as accumulation, trending up, distribution, and finally trending down as the only fact that can be predicted in the stocks market, but all other factors are random. This is in my opinion is not true and I am going to put some thoughts regarding all financial markets stocks, Forex, Futures contracts, and commodities regarding if they are really moving randomly or there is something that is under the investors or traders control can be done.

Stock Market:

The stocks market is the most known financial market that many authors wrote about and try to explain its movement and how can be approached. And it is the most simple market that works in a predictable fashion. The reason behind that is because it consists of stocks of companies which are only a reflection of the financial statements of those companies. what I meant here is that if the fair value of a stock that is generated from the financial statement of its company is high and the price of this stock in the market is low that means definitely you need to buy this stock and wait until it reached its fair value to sell it and make a profit or keep it if the last financial statement for that company released and showed that there is an increase in the fair value of that stock. The only thing that is random here is that when the stock will reach its fair value, is it in a short time period less than 3 months, or is it in a long time period after 1 or 2 or a maximum of 3 years. This is the approach used by the Oracle of Omaha, Warren Buffett, Who said that I never looked at the screen to see the prices of stocks in the market because it’s just a little fluctuation for the stock prices and at the end, the fair value will be reached. Options which are derivatives instruments generated from stocks of the company also have a fair value which can be used as a guide for those who want to trade it or invest in it. That means somehow they are not moving in a random way and can be treated as socks.

Instruments Short Term Movement 3 monthsLong Term Movement (more than 3 years)Percent of randomness
StocksRandom Movement of PricesMoving toward the Fair Value30% to 40%
OptionsRandom Movement of Prices Moving toward the fair value 30% to 40%
Stocks and options Randomness

Forex Market:

Forex market is the most traded market especially after the advanced technology that was adopted by many individuals around the globe. Unfortunately, those who traded in Forex and believe it’s the most profitable market which is right but if traders avoid using leverage or depend on it at least as little as possible. This market is the most random market of all financial markets not because the traders think it is controlled by big banks such as Citi Bank and HSBC and others. The reason is that that many companies that work in multi countries and have different nationalities hedging their profits using this market especially when the cost of their products is in one currency and their profit in another currency. This is known to many traders as institutional trades which is only one of so many ways that institutions trade this market and that is the main reason behind the randomness. Since this market is a decentralized market and since it has so many participants that affect its movement, there is no reliable edge that can be used in this market except trading this market using probabilities trading as the one that i discussed before in this blog as trading probabilities .

Instruments Short Term Movement Long Term MovementRandomness
Forex Pairs Moving in randomMoving in randomAbove 90%
Forex Market Randomness

Future Market:

Future market is also the type of market that is only affected by supply and demand theory. But there is a financial truth which is the main trend for the future market is the downtrend, because farmers who own the physical products such as rice, wheat, and other products are selling contracts in this market as hedging for their real deal on the physical market. One good strategy that can work with people who traded these markets is only to sell this market whenever they see a high in contracts prices. Technical analysis especially the price and volume are the only source of information for the traders who want to have an edge in this market.

Instruments Short term movementLong Term MovementRandomness
Future ContractsRandom movementDown Trend, Selling About 60%
Future Market Randomness

Bottom Line:

To answer the questions that if financial markets is random?, the answer is for the short term they are working in a random way, but in the long run, the only market that is not moving in random is the stocks market and those markets that rely on it, which will always appreciate the fair values of those stocks either if they are undervalued or overvalued

The new Bull Market: Get Ready

Many people missed the bull market that started at the beginning of 2009 and almost end at the beginning of 2020 due coronavirus crisis. That bull market took the DOW 30 index from its bottom which hit in March 2009 and was 7000 points and did not stop until it reached 30,000 in January 2020. This index moved about 23,000 points and made a profit of more than 328% in almost 11 years. The same is true for S&P 500 index which moved from its bottom that hit in the same date, which was 700 points until it reached 3400 points in January 2020, which means that it made 2700 points as a profit that almost 380%.

Both major indexes made a profit of about 320% or more, which means that if some one at that year of 2009 invested about 10,000$, then within almost 10 years she will made about 32,000$ as profit, and if she invested about 100,000$ then she will end up with about 320,000$ in profit. So what all of that is have to do with market toady and coronavirus crisis and 2020.

Coronaviruse Crisis hit the market so deep and started huge sell off pressure in February 2020, when all stocks have been drooped almost around 20% of its prices or more. This can be either one of two cases. The first of which is market starting correction phase which means the it will move in side-way for almost a year or so failed to make new highs as well as supported by investors whom prevent it from making new lows. While the second case is market staring new bear move which means that it will make new drops and not able to make new highs. Both cases will not last for long. The correction phase may become shorter than the bear market phase, but both of them are good opportunity for investing. Because both of them having an opportunity to by good stocks with cheap prices.

What should people who missed 2009 Bull Market do in order to take advantage of the Coming  opportunity?

There are two types of people based in their knowledge about stock market which are as following:

  • People who have no clue about stock market (Type I).
  • People who have knowledge about stock market and know how to invest and make fundamental and technical analysis (type II).

Type I people should not be worried about their lack of knowledge in financial market specially in stock market, because their lack of knowledge might be their strength. The reason is that a lot of expert in this field is trying to spot the bottom to ride the wave of new bull market and failed to do so. While those who has no clue about stock market they don’t need to bother them-self about market tops or bottoms. They can easily open an account in any fund that invest in DOW 30 and/or S&P 500 indexes such as:

  1. Fidelity ZERO Large Cap Index.
  2. Vanguard S&P 500 ETF.
  3. SPDR S&P 500 ETF Trust.
  4. iShares Core S&P 500 ETF.
  5. Schwab S&P 500 Index Fund.

Once they invest in these mutual fund, they will be riding the next bull market and this will happen when the correction phase or bear market finish and market start break the top that made in January 2020, and start moved up and make new tops that might be 60,000 or 90,000 or more than that. But to get rewarded properly in this investment, people who used this approach must hold their position for almost 10 years or so. And they should only invest with money they can afford and get no loans. Also they should use money they don’t need it for the coming 10 years.

Type II those are who know stock market and how to read charts and do some fundamentals and technical analysis regrading any company and its stock to know which stock is the best and when will be the good time for entering and exiting an investment, I have some tips for them – they might go for the tip that provided for Type I – and they are as below:

  1. If you know how to short stocks and familiar with this type of trade, then go ahead and do it, but you have to make sure to read candle properly and the volume that made it, in order to spot a good entry and exit and made some profit while the market is dropping.
  2. If you want to buy the market and go long, never do that until both Dow 30 and S&P 500 indexes made bullish candle in monthly time frame with higher volume than all precedent candles (specialty the red one).
  3. Do not buy good companies while there are best one, and to know which one is the best:
    1. Go to earning report and see which companies are able to make huge profit in the time of crisis.
    2. Companies that have perfect earning reports should move in advance of the index, for example if the index made the bullish candle in (2) and still did not break its MA(50), and the stock that you are willing to buy is already cross above MA(50) then this is a good sign that this stock is a leading one and it will be good if you invest in it since it might be the leader of the new bull market.

Both type of people should be prepared for the next bull market which might start after one year from now or so, and they should save some cash to invest in stock market because it’s the only place that can allow you to be shareholder in best companies in the world and provide you with more than 300% return on investment or more.

COVID-19 vs. S&P

Usually the stock market started its bear move as a result of financial crisis or unmanaged debt by financial institutes. That is not the case any more with fear of Corona virus (COVID-19) spreading all over the world so fast which made S&P 500 hit its lowest points since 2018 that was about 26%. This slump can be considered as a correction move if it maintain its level and did not go down more than that. But what appears to all investors that this down move will continue and no one knows where will be its next stop. All of that happen as a result of fear that made all investors started sell off process that made this drop.

That lead us to a conclusion that the bull movement of stock market which started in 2016 was based generally in greed only. Major companies at that time until now did not make any profit that justify the bull movement of their stocks. There were no new development in their products/services that can help investors bet on them. Despite that their stocks were soaring and going up without any correction except for some drops. Even the Forex market which considered the most liquidated market with around two trillion dollars per day, lack the momentum that it used to have because money has been shifted to stock market. The greed make a lot of traders who bet on prices rather than companies join the stock market and ignite the bull movement since 2016.

Now with fear factor the other part of the equation, the first part was the greed that made the bull market since 2016, we saw bloody markets with all major indices going red and drooping more than 25%. If this move continue with its momentum we will be the first to watch a financial crisis that caused by fear rather than bad debt or government money policy that never happened even in times of wars.

But this nonsense market that moving down driven by fear should be a good opportunity for wise investors who never bet on prices but good companies. What good investors should do as all previous ones did is to invest in market where people running out of it because of fear. This does not mean that an investor should jeopardize her capital and invest her money in the market right now. But she should pay attention to companies earning report and study its financial statement closely and notice any good oppurtinity for investment. Once she spot that opportunity, she should wait for the first sign of of bullish move when the price crossing up the simple moving average of (50) days and pullback. Once this happen she can then step in and invest as well as wait for her investment to be fruitful which might be one year from now where her capital might increase 100% or 200% or may be more than that.

Sales: The leading indicator to pick winning Stocks

Sales is the amount of money that companies received for selling its products and/or services. This money is usually include (cost of products/services + profit ). The cost of products/services can be the raw materials that company used to produce its products/service and human recourse as well as other assets that company had to have in order to produce its products/services and make it available in the market. The profit is the amount of money that company added to the price of products/service that it produced in order to make profit form those items. Once the number or amount of sales has been increased then that the profit will increase and once the profit increase earning per share for the company will increase (EPS). Finally, when (EPS) of company’s share increase it will be under high demand and that will lead to increase in its price which will make it go up, or keep going up if it already was moving in uptrend.

Usually increasing in sales will be leading indicator for increasing in (EPS). Wise investors will screen for stocks that has increasing in its sales for three or more quarters but its (EPS) did not change except for some positive earning. But once the (EPS) of that company which its sales was increasing for a while, jump and increase 75% or 100% or more, then the investor has two indicators tell her that this stock will rise and move in strong bullish up trend, then and only then when the (EPS) increase and confirmed the sales, investors should bet on that company’s stocks and invest in it as long as its sales maintain the same records and (EPS) fluctuate within the range of increment.

Sales is one of the leading fundamental indicators that investors usually use to predict if there will be an increasing in (EPS) for stocks. Once they spot consecutive increasing in sales but no change in (EPS) they start to prepare for investing in that company once they got the green light which is an increase in (EPS).

Also investors can use sales to justify if the increase in (EPS) of company come from its sales or it just come from cutting cost.

How smart money play Market

Many of us heard about the smart money but few understand what does it mean and how also it plays market and manipulate it and made it moved to its favor as much as it could.

Smart money simply is refer to shares belong to people who are own a lot of company stocks. The bored members of the company whom they have so many shares of its stocks under their control. They did not called it smart money because its more smarter than our money or because its IQ is way higher than others. They called it smart money because its belong to company’s decision makers and to first people who will know if the company make so much profit in this quarter before any other party, or if it did not sustain its profit for this quarter as it promise.

So based in this giving fact, the smart money is the first one to know if there will be a problem in the next earning report of the company before anybody else in the world. Those people will know if the profit will go beyond the expectation which is good for company’s stock, that allow them to start accumulate stocks as much as they could before releasing the earning report because they new that once the report is released the stock will goes up and make new highs that may be never made before. On the contrary, when the company did not made that much profit in its quarter or may be there was a lost in the earning, smart money will be the first to know about that and they start selling some of their shares before the price goes down and made profit before the stock drop.

But this is not the only way smart money manipulate the market with, because I am assuming it should be known to all of us that smart money has access to information before it become public.

The trick or method used by smart money, which is more smarter than the previous one, that used to manipulate stock market and made other investors confused and made them don’t know what to do is manipulating the guidance. But before I jump to explain what is manipulating guidance mean, let me define the guidance first.

Guidance report or as know guidance earning is simply the company expectation about its earning in the next quarter. Like for example if the company has an earning per share or (EPS) is 3 $ for this quarter but the company still believe it will double this (EPS) for the coming quarter. That means the earning guidance for the company is positive about the next quarter at least which means that its sales will increase and its profit will increase as well. But when the same company released its earning report which was (EPS) 3 $ but it mentions that somehow the earning will go down in the next quarter, which means that there will be drop in sales and profit, that means the earning guidance for this company is negative.

Both negative or positive earning guidance has impact on the stoke which made it drops some time to 5% or may be starting its correction phase, or may be stock will go in bear move that made it loss ,more than 15%-20%. Or on the other hand, it might make the stock to start soaring and going up in its bull move.

The effect of positive or negative earning guidance combined with positive or negative earning report respectively is clear for most people, but what will happen if the opposite was the case. How the stock will react to a positive earning report with negative guidance or negative earning report with positive guidance. That where the mess happen and here where the smart money or board members can manipulate the stock market. Because by law they cannot fake earning reports, but on the other hand, they can fake the guidance report and provide misleading information about it.

The smart money can fake the public by giving positive guidance while the earning report still negative in order just to make the financial institutes and other firms jump into buying this stock to end the accumulation phase and make the stock to start its uptrend, and the opposite is true, smart money might provide negative guidance to stock even with positive earning report to just let the financial firms get rid of this stocks and end the distribution phase of the stock and let it start drop in down move, and this is where smart money can manipulate the market. They can give misleading information that does not add up with fact investors already had which is earning report to made the stock of their company end accumulation phase and start going up or end the distribution phase of stock and made it goes down.

Either way, smart money at the end will win, and if you are an investors which means that you bought stocks and hold them for as minimum as (five years) you don’t need to wary about smart money manipulation for the stock they own, you just need to go with the fact that you had in front of you in the earning report and make your decision to either invest in this stock or not. But if you are trader who bet in stock’s price not in the company itself you need to pay careful attention to these type of information, and try to align your trading decision with smart money movement.