Category: Behavioral Finance

Bulls make money, Bears make money, and the Sheep get slaughtered.

When people discuss the stock market, they invariable talk in terms of Bulls, Bears and Sheep (and sometimes Hogs). While this analogy has great explanatory power to people who don’t actively trade or invest in the stock market, the truth is, the limitations of the analogy outweigh the uses.

The Market is not made up of Bulls and Bears, it is not made up of people who can be pidgeonholed into one or another position, either on the market as a whole, or even on a stock in particular. Even though many people may think of themselves as “Bullish” or “Bearish”, these terms belie a belief that a person really has a rational opinion about the market or a stock, and is acting from a reasonable place.

The first thing to understand is that the stock market can never, ever be rational. It cannot be rational because it is forward looking. Investment, and trading take place on expectation, not rationality. This doesn’t mean that a single actor within the stock market cannot be rational, they can be. But the Market itself is the sum of all hopes and all fears of all participants at all times.

Consider for a moment a man who works in an office. He works from 9am to 5pm. At the end of the day, he no longer wants to be at work, and wishes to be at home. The most rational course of action for him is to get into his car and drive home by the most direct route. Unfortunately thousands of other people are making the exact same rational decision. Where does he end up? Not at home, but sitting in a slow moving traffic jam. The point is that large systems, which are the sum of all decisions within those systems, even when all those decisions are absolutely rational and reasonable, can still end up irrational.

The most irrational outcomes arrive not from individual irrationality, but actually from crowd based irrationality. The stochastic nature of the stock market is a function of demographics making rational decisions in the moment that lead to irrational and apparently chaotic outcomes.

The limitations of the Bears vs. Bulls is that if such a thing actually existed the market would not move, for every buyer there must be a seller, and each of these people is more often than not motivated by complex emotions.

Let’s take an example: As a stock (say XYZ) moves up or down from the inevitable noise caused by orders which move up or down in small increments, there is a chance that a point will be reached where the risk to some institutional traders portfolio gets too close for comfort. Perhaps he’s a junior trader, he is “bullish” on a basket of stocks, but on some he’s more bullish than others. Because he is instituionally required to cut a stock when it reaches a certain risk level, he sells out of the position for no greater reason than the basic daily bureaucracy of the trading world. His sale of a rather large position contributes to a slight downtick of XYZ.

Somewhere else, far off in the world are various traders who bought the stock awhile ago, and have been through few nerve wracking ups and downs. Now that they are up, they are wanting to consolidate their gains and move on to other areas. When they see the downtick, they decide they’ve had enough of this stock, the swings are too much, so they sell. This contributes to a further downtick.

This downtick is just enough to hit the poorly placed stop losses of a small population of retail traders, but just enough to add to the down volume and produce another downtick.

A major 24 hour market news channel who’s desperate to remain relevant maintains a stable of “analysts” who they rotate around depending on what is going on. On noticing this now large downward movement in XYZ, they find the analyst in their pool who has a “bearish” opinion on XYZ and it’s over to you Bill Bearington. Bill Bearington spends 30 seconds making the bearish case (which always exists) for why XYZ is down.

Now even more people, who previously were “Bullish” on XYZ decide to sell out, out of fear that it will go down (which is only legitimate because they act on their fear). The stock plunges even further.

What is missing from this equation is the other side. Every one of these sellers had to sell at some price. Which means that someone on the other side had to be buying into them.

In the above example, in late April, $DNKN was doing great, it had great earnings expectations (which it later beat on EPS). Suddenly, CNBC had an interview with Jim Chanos, who revealed he was shorting the stock, this lead to a large dip (about 8% at one point IIRC). Anyone who bought against that panic made money, a decent profit could have been had.

It is obvious that this is not a battle of rational actors, or people doing things in reasonable ways. The price of a stock always goes up, and always goes down. It’s actually quite rare for a stock to stay down forever, especially if it has even nominal fundamentals. Stocks have a tendency to range as much as 50% in a 52 week period.

There is no single reason this ranging, it is the sum total of a lot of reasons, many of them have no rational basis in an expectation as discrete as “bullish” or “bearish”. The person who sells, expecting the stock to go down is a fucking moron. They are not bearish, they are self-sabotaging. By participating in the herd cycle of buy-fear-sell, their expectation becomes a manifest destiny. They create the very thing they fear!

The market is a great ocean, filled with various currents, tides, that ebb and flow. These tides are constantly interacting with each other, it is usually the confluence of greed and fear which causes selling, it is usually the intersection of greed and envy that triggers a rally. I specifically use envy here because most actions in the market are a function of monkey see, monkey do. Lots of people are investing in FAANG’s these days, they’re making money, I want to get that money too.

If you buy a sector because others are buying a sector, then you are already a loser. You need to be ahead of the curve, you need to be buying when others are selling, in expectation of the turnaround (if you’re a trader in say 1-3 months). I bought oil stocks when Oil was shit and held them from about 5 months before anything happened. I was a bit early. But you know what I did? I just turned off my charts, and looked at my portfolio once a week. On Saturday. Just to keep myself from selling off when there was a dip.

I picked some good stocks, and some bad ones. $CHK turned out to be a shitstain. I was up at one point, but it went back down and stayed there. I was patient, in the end, I cut it loose and lost about 0.10 per share. It was a small position, so it didn’t hurt. I wasn’t very sure about it anyway, so I didn’t risk much. I would say about 70% of my positions didn’t pan out, and I cut them. I still made 20.1% after losses.

After I did that I thought I was pretty hot-shit, so I started trading more, a lot more. I would make a small amount, and then lose it the next day or week. In the end, I broke even thankfully. Day Trading isn’t for me, it’s just too much noise. Now that I am back to longer term trading (1-3 months forecast), I am up 1.35% with what I feel are solid positions.

The point is not that I am super smart, or good, or experienced. The point is, I’ve been in the position of someone selling out of a position. It was pure emotion, it was primitive, there was no Bullish, there was no Bearish, there was just “holy-crap I need to unfuck this position now or the world is going to explode.”

This is why I’m a fan of Behavioral Finance, for me it has a much more realistic explanatory power for Markets than say the Efficient Market Hypothesis, or even the Broconomics of your average retail trader. It’s for this reason I find Bulls vs. Bears to be unhelpful, because it denudes the actual primitive crowd based emotions as well as the bureacratic inefficiencies which make the market lucrative, but also dangerous.

You might think this is a no-brainer, but in today’s market, people are consistently incapable of distinguishing between the two. At a certain point, let’s say in the early 2000s some companies operating on the internet came up with the single greatest market innovation in decades. No, it wasn’t new technology, it was a new idea.

If you could invest in and build a service, give it away for “free”, then you could create a dedicated viewer base, which would be your actual product. This was the point where factory farming met internet services. Cows get fed, watered, in some places they even get massages. The whole point of doing that, feeding, watering, massaging – is to fatten them up to be consumed.

It was a masterful idea, it was brilliant, and genius. Today you have companies like Google $GOOGL, Facebook $FB, Twitter $TWTR, and even companies like Apple $AAPL, which masquerade as tech companies, but are really just advertising agencies. Instead of targeting advertisement of their product to a wider consumer audience, these companies turn consumers into the consumed, and have a B2B model of selling their consumer livestock to the highest bidder.

Think about it. What has $GOOGL ever really done or invented? The simple answer is: nothing. Nothing that google did was particularly innovative. Networking a bunch of computers together for distributed computing was already a thing people had done. I was there when $GOOGL won the search engine wars. The idea google sold to users was not that their search was particularly the best, but that they didn’t allow companies to pay for placement in search rankings. We all see how today, they’ve reversed that position (though they kindly delineate between paid placement etc.)

I don’t consider this a problem in and of itself. I’m not anti-advertising. I simply find it ironic that 15 years ago, what all of us thought was the shining gold star deserving point for Google has essentially been turned on its head: once it won the search wars, it essentially did what every Eyeore said it would do.

What has Google ever done? The raison d’etre of Google is search, and it’s algorithm is one of the biggest frauds in history. Google is still, and was always, a mechanical turk. Google’s page rank is a bunch of jargony sophistication on the idea of outsourcing search results to users. Throughout Google’s search history, those who’ve understood this have made a lot of money in SEO. There was a time when you could artificially spike Google’s search results by simply creating lots of dummy websites with back links to your site. Eventually Google caught on, without the slightest bit of embarassment for having been exposed as frauds, and began tweaking their “algorithm”. You remember, the age of the Posting Board? Almost every search on Google ended up having hundreds of different threads from online forums. Because Google decided to “fix” their mechanical turk and over rely on “live discussions” between real humans (the mechanical turk). Remember the time when a link on slashdot could litterally tank your website?

Eventually they fixed that, but most of what Google and its “algorithm” actually does is account for the various methods of cheating and fooling its mechanical turk.

When Youtube wanted to censor objectionable (to them) material, what did they do? They invented some high powered AI that pretty much didn’t work. So they outsourced it to the ADL and SPLC (Youtube’s Mechanical Turk).

I have no problem with Ad Agencies, I think they are awesome, I think Google is a great company, for an advertising agency. But I could care less what Google or anyone at Google thinks about tech. When Erich Schmidt gives a keynote or some kind of tech convention address, all I do is wonder, when is someone going to point out that the Emperor is Naked?

This doesn’t mean that Google doesn’t offer tech things, like Tensor Flow, Kubernetes or Google Maps. Some of those things even have a bit of a cool geek factor. But Google does not create or innovate at the level of its capitalization. Google innovates because it throws truckloads of money at MIT grads for 2-3 years to see if they come up with anything that will grow their product: the audience. You. Me.

Remember Google Pay/Wallet? Yeah, neither do I.

Google couldn’t compete against Paypal because Google can’t innovate. If they could have found some new and innovative way to merge online payments with advertising, maybe it would have succeeded. The reason google payments failed was because it offered nothing above or better than anyone else in the space. Except: Because Google.

Google trades on reputation and image alone, and it cultivates that image in the same way a Pick Up Artist cultivates his image to seduce women. Its all a shew. A multi-billion dollar shew.

Facebook $FB is pretty much the same story. Mark Zuckerberg is no genius, all he did was build a better MySpace, and by better I mean one not built on ASP.Net that allowed incompetent users to inject CSS and Javascript into their profile. Facebook was able to capitalize on the new-hotness, and to provide a service, in this case in line with Apple’s philosophy of sell-to-vanity, and to grow a marketable product. That product is not a social network. It is not picture alblums, or timelines, or chat. That product is the user. They are selling your eyes. That’s it.

Twitter is another such story. It was a fast to market app that capitalized on the Web 2.0 and Rails hype. It had nothing to do with tech innovation (it was basically SMS for a webpage), it was just able to get enough acceleration to build a marketable customer base. Forward thinking investors chose these “tech companies” based on their future earnings when they began to sell to their audience. Social Networks are cash crops for B2B sales of Advertising. What these Masters of the Universe, these men of science, learning, and technology, have done is turn the entire internet into a billboard laden dopamine super highway. It’s not merely that they haven’t contributed in any meaningful way to tech, it’s that they’ve actually and actively polluted the internet. They are the digital equivalent of Big Tobacco and Big Oil and Big Pharma rolled into one. It makes me laugh my ass off, considering the prevalence of self-congratulating leftist socialist backslapping that goes on within and without these so-called “tech-companies.”

Fight the power man. LMFAO.

It’s the greatest con in recent memory, perpetrated on the liberal elite of this country. Masters of the Universe my ass.

Just to repeat, I am not against these companies. Personally, the idea of whoring leftist yuppies in skinny jeans gives me a massive chub. In fact, the more I think about it, the more I love these companies. It makes me want to get a screen printer and sell Che Guevara t-shirts at $25 a pop and Fidel Castro Tea Cozies for $15. Gotta get in on that Democratic Socialism Dollar.

So, what does make a tech company?

The same thing that makes a Sci-Fi novel. Star Trek is Sci-Fi because it is predicated on technology. Specifically Warp Capability. Several shows even are built upon the idea of the distinction between Warp Capable and Not Warp Capable societies. Star Wars gets a pass because of Hyper Drive, as well as the Planetary Shield over Endor, or the Death Star (giant planet sized “laser”).

Google is not a tech company because its business model, i.e. the way it makes money as a business, has nothing to do with technology and everything to do with advertising and services. For this same reason, Apple Inc. $AAPL skates under the wire, so technically it is a tech company, but only in the broadest definition of the word.

Netflix is a tech company, actually a really good one. Their core business is their application to deliver streaming content. I think they’ve also innovated in this space, both technologically, but also cinematographically.

Strangely enough, Amazon $AMZN has become a tech company. It is way more of a tech company than Google ever was. AWS is ubiquitous and, quite frankly, game changing. DropBox Inc $DBX is a tech company. Twitter is not. Facebook is not.

A tech company is a company who delivers investor value because of technological innovation, in deployment, scaling and features. If it fails to innovate or it fails to deliver on promised technology, it fails as a company. That’s why people prefer to invest in companies like Google and Twitter, because their success of failure is a direct product of their ability to massage cows. Massaging the Cows is a quantifiable and well understood investor concept. Happy, smiling cows that post selfie are a metric you can talk about. If you have 400 Million cows and 75% of them are posting selfies at the trough, you know you’re doing well.

Jim Chanos took to CNBC on earnings day for $DNKN to reveal to the market that he short DNKN. Uh…he is short $DNKN, for 12 months. Being early is the same as being wrong.

Jeez, I wonder why he did that? He did it cause he’s in the hole, and if $DNKN goes any higher, he might get a margin call. He was in the money for 5 months, but wrong for 7 months. $DNKN is now trading SUBSTANTIALLY higher than his entry price would have been.

That’s if Jim Chanos is telling the truth, or acting out of desperation. He might just be misdirecting.

Now, it might actually be that $DNKN will go down. But that’s not genius, that’s market manipulation.

The takeaway is:

Kynikos Associates, with more than $2 billion in assets under management, saw its short-only fund down 12 percent last year, according to sources familiar with the matter. Kynikos’ hedge fund was up 22 percent last year, sources said, adding both funds are about flat in 2018.
From CNBC

Is there a there there?

The simple answer is yes: long term, QSRs are going to be struggling with tight competition. There is a basic problem with the margins of DNKN, and that problem is that it squeezes the franchisees pretty tight, from 2-5% does not a good business make. Basically, if you open a Dunkin’ Donuts, in the current QSR space you aren’t looking at making much money. The only REAL way $DNKN can grow revenues right now is by expanding, opening new stores, and getting more franchisees to pay them. They can’t increase royalties, because there’s not much room in that 2-5%.

Just where are QSRs going from here? Are we looking at a Demolition Man style competition where it’s a race to the bottom, which company is ready to make the least margin? Maybe.

Whenever the stock market, or commodity prices move, analysts and interested parties feel compelled to “explain” why it has moved one way or another via what could be called “Overton Rationalizations”. The Overton Window is a window of acceptable discourse, and the Overton Rationalizations are the window of acceptable causation.

For instance, if the price of oil goes up, there is probably some tin-foil hat nutter who thinks it went up because the reptilian space dominion wants to bankrupt individual consumers, driving them into homelessness so that these intergalactic masters of the financial universe can harvest livers in ghetto back alleys. That’s probably not the case (who am I to know really), but one thing we can say, is that it is not within the “Overton Rationalization” window. That is, the reptilian oil price causation theory is an extreme or fringe “cause” to explain a mundane (appearing) effect (the price went up).

Cause and Effect, in order to be considered thus, must be consistent. At least statistically consistent. The market, due to certain amounts of noise and a dependence of investor sentiment, is at least in the short term semi-stochastic, so some allowances have to be made for small errors in causation.

Within the Causationsphere of Oil Prices, we have something like this:

Apparently, a terror attack in Libya, endangering oil production further, has a negative effect on the price?

You’d think a direct terror attack, plus the devolving situation in Libya would at least merit an uptick or two?

Ahh, but here comes Reuters, to the rescue:

Ahh, I see, the rumor that the US might possibly kinda lift some sanctions of Rusal, which exports Aluminion leads to a fall in Oil Price because: “reasons”?

That makes so much sense…

No, actually, it really does not.

Here’s another fantastic point to consider:

The most disruptive thing to happen in the Middle East in nearly 100 years causes the price of oil to Fall?

Within days of ISIS declaring the new Caliphate, and seizing a whole shitload of territory. The price of oil went into free fall. Because of a magical “Oil Glut” that hadn’t been noticed until then.

Yeah.

The Price of Oil is not determined by the market

Oil is far too important a commodity to allow it to be determined by the market. It is also not a matter of it being singly controlled by the US, Russia, OPEC. It has to be more complex than that. It doesn’t mean it is “rigged” as in it is always up or down based on the whims of a bunch of cigar sucking oil execs, but it does mean that it is strongly influenced not by geopolitical events, but geopolitical strategy.

What the various actors are trying to accomplish has more influence on oil, than any single event.

A generation ago, in the US, there where thousands of independent toy stores. Those toy stores found their industry disrupted by a new kid on the block, Toys R Us. 70 years later, the internet, helped by Toys R Us’ crippling debt load, have finally killed the iconic toy giant.

While this is a cautionary tale about debt, and the fact that any company, no matter how big or how old can succumb to the death by a thousand cuts, what is more it is a tale of how disruption and the failure to adapt kills businesses and disappears jobs.

Requiescat In Pacem. I was too poor to shop at Toys R Us when I was a kid, I used to wander through its aisles and wish I could have all those toys. It’s a shame really, a bucket list item just got erased – undoable.

But for all those companies that were put out of business by Toys R Us’ disruptive business model, they echo: “Ask not for whom the bell tolls, it tolls for thee.”