Arbing Our Time Away

  • Posted by
  • on April 6th, 2011

We know each transaction matches a buyer and seller.  Do each of these parties really view the current price so much differently that they’re willing to take the exact opposite posture as the counter-party?  I doubt it…most transactions are simply an arbitrage of time frame.  So who wins?  Fortunately, absent Chinese frauds and true pump & dumps everyone can win if the starting point is good enough.

It’s my contention that the motivation for most activity comes from a data point completely irrelevant to the outlook…entry price.  Eddy Elfenbein has such a way with words, and nailed it when he said $NSM is up 70% this morning, which is another way of saying it’s down 44% over 11 years instead of being down 67%”. Perfect.  Long-time shareholders must have thought “Guess I get something back, maybe I should wait and see if another buyer comes along”.  But the guy who bought it last week?   How many seconds into the market open before he sold those April 15 calls?  Different perceptions of the same news, shaped not by special insight but simply when and where the stock was bought.

Bottom line?  We’re all just arbitrageurs of time.  From HFT to pension investing, the initiator of activity is seeking to begin or end a relationship with the security in question, and time frames are unique to each of us.  We’re not looking the other party in the eye and saying “You’re wrong”.  And if we were, I’m guessing there would have been very few sellers to offset Donald McLeod’s(that’s Mr. CEO to you) sale of 300,000 $NSM last week. Or how about looking Kevin Douglas in the eye and shorting $AMSC above $23 coming out of the Japan lows. We may know more than this guy, but we still don’t know squat.

So as much as we talk about exits, and I think about them a lot, when studying price we need to know where people entered.  It tells us a ton about where they might be willing(or forced) to exit, and that is great information for our planning.  Those who bought in early February have a different take than those who bought into the Japan lows, who have a different take than those who bought on last night’s close.  No matter the objectivity of any one special trader, the collective response to those purchases is totally unique to each of those groups…and information we can use.

A surprise buyout may sweep the board of overhead supply on any one stock, but that doesn’t happen with a sector or index; every past purchase immediately reveals a potential future sale.  What the 6 weeks since Libya has done is created a mixing bowl of emotion and debate about future prices.  Hesitation at the upper end is logical as those stuck earlier in 2011 are thrilled to get back to breakeven and others wait for the clarity of earnings season.  Chewing through these levels would leave ZERO 2009-2011 buyers at a loss on the indices and could usher in another leg to the bull.

Dynamic Hedge wrote another killer piece, this one discussing the widening gap between leading and lagging sectors and the difficulty in applying mean reversion.  But there has been mean reversion, just on a different timeframe and style…big down late Feb-mid March, then big up.  The end result is a 6 week base that will eventually resolve one way or another.  A bear will point to the leader/laggard spread and shout “Warning!”  A bull will sheepishly whisper “What if $SPY follows the path led by $PCLN & $LO & $LULU & $OPEN and go crazy to the upside”.  Prediction…we’ll hear more about the former than the latter.  In my experience, it takes a whole lot of obvious bullishness to match the volume level of bearish soundbites.


The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.

blog comments powered by Disqus
Derek Hernquest Blog