I found this interesting post on Crossing Wall Street this weekend. The post is interesting as it drives home a point which seems to have been overlooked in the media.
Most trades, I think talk is of about 60% of all trades, are nowadays handeled in a fully automatic way by computers without any human intervention.
That is a significant paradigm shift. Chances are that if you analyze indices or the stock market or prices of anything, you are not analyzing the economy or the interaction of humans with eachother anymore, but the behavior of programmed algorithms.
This behavior is with certainty deterministic but may display chaotic behavior. There is no randomness at all anymore (if there ever was one).
It is then no longer a bet whether your investment succeeds or not, but a sure thing, and speed is of the essence.
This is the ‘there ain’t enough room for the both of us’ wild-west thing: The one who draws quicker wins.
Just more evidence that the game is rigged.
Here is the post:
Investors and pundits are left clutching at straws to explain big moves in the stock market, such as attributing a June 8 bounce to rehashed comments from Nobel Prize-winning economist Paul Krugman. The difficulty in divining a fundamental explanation stems from a structural change in the U.S. stock market: The majority of stock trades now originate with fully automated “high frequency” funds, a phenomenon that has accelerated during the market turbulence of recent years because of the relative success of the strategy.The growth of these funds is such that institutions whose names have never appeared in the newspaper are now trading hundreds of millions of shares a day. Major hedge funds that have put other strategies on ice are opening new funds devoted to high-frequency strategies and hiring the mathematicians and computer programmers that run them. Some of the fastest-growing market makers, such as Global Electronic Trading Company, or Getco, also use the automated strategies.
With the rise of these automated funds, the stock market is more prone than ever to large intraday moves with little or no fundamental catalyst. Computers don’t analyze the news (although some strategies use headlines as triggers) or seek to justify their buying and selling. Even in the relative quiet of the last three months, investors have often watched individual stocks or sectors move by 10% or more without explanation.
These funds employ no traders in the conventional sense. They employ no economists or chart trackers. Rather, programmers at funds such as those operated by Citadel Investment Group and Renaissance Technologies outfit computers with strategies based on obscure mathematical correlations. Then the machines trade in and out of stocks at light speed without human intervention, a departure from the “fundamental” investing model that dominated trading for the last century.
Now that explains a lot of the patterns that I think I saw in recent month. It was rather remarkable and odd, for example to watch the headlines of Reuters and Bloomberg. It seems as if you could pinpoint one day on which they both jumped on the greenshoots bandwagon – without seemingly being able to justify that with fundamentals.
Then there seemed to be a one-day-up-next-day-down pattern that you actually could predict, which is counterintuitive in times of high volatility, right around the time of TARP disucssions in Congress.
There were more odd things, odd enough that I believe this to be something that needs some more investigation