Institutional investments do not indicate a “worst cycle” phase to come
Figure 1 illustrates the impacts of equity trading volume on the overall market as vertical measures of potential price declines against which potential price declines are hedged to make high volume trading possible. The bigger these are verticals, the greater the uncertainty considered possible in the prices of market indices.
What makes the situation worse for individual investors is that they are scared at the worst possible time – just when their confidence is destroyed enough that they sell their stocks to institutional buyers. And then, having suffered a loss due to rising prices, staying out of the market for fear of losing more – somehow, in cash? They waste the opportunity to drive the market higher with institutional players.
Hence the label “fear index”.
But the bad guys aren’t the big buyers, whose billion-dollar portfolios require big deals to make an impact on management.
No, the image in Figure 1 should be read in reverse. When the VIX is high, markets are likely to fall; when it is low, the probability that the markets will go down a lot too.
(used with permission)
Figure 1 shows six months of repeated daily assessments of the range the general uncertainty of the market index, with the calculated number of the VIX index for the day as a thick dot superimposed on the vertical range.
Presented this way, the greatest fear of further price declines is illustrated by the size of the vertical under the dot. Measured as a percentage of the entire range, we call it the “range index [RI]”.
The current RI is the rightmost range and its RI value is zero, highlighted by a line denoted zero in the small “thumbnail” image below the data line in Figure 1. The small counts the number of market days at past 5 years at each IR level.
That’s right, the community of investment professionals that makes continuous trading in the stock market possible during open market hours, at the end of that New York market day, were making big bets on the the fact that the markets the next day would probably not see a panic on the opening prices. contrary to the apparent calm present at the time of the closing.
But improvements in communication technologies are advancing in commerce around the clock, and they know how to respond quickly and efficiently. Note that the left scale stops at 17, not zero. And also note that the slightly erratic lower edge of the daily low-end advance has gradually increased slightly over the past 6 months.
This does not seem worrying to us.
Our regular readers recognize that this presentation of the balances between the possibilities of opposing outcomes is also usefully applicable to specific stocks, ETFs and index vehicles. And we pursue them in our articles and comparisons. There we use the institutions’ foresight evident in the hedging actions rather than the bulk of the history of hindsight replaying the “evidence”
It just seemed fitting to respond to a continuous drumbeat crescendo of “virtually certainty” of even worse ahead of us, and its stories of “boogey-man” history. The market price outlook ahead should have a two-way representation. But recognizing why so many individual investors fail to recover from market fluctuations deserves and should receive recognition.