Man vs Machine

Posted by

Share on Facebook

Tweet on Twitter

If you watch the market on a regular basis you will know that there are times when making money is easy and other times when doing the exact same thing can get poor results. This highlights a cycle that exists in the market that is hard to explain. It is not always correlated to the movement in the indexes, the past few days (not including today) have been harder to trade even though the index has been going up.

I have a theory.

Half the trading volume in the market is driven by computers using algorithms to decide when to buy and sell.

That means the other half is driven by humans.

Each has a different approach to the market. Algorithmic trading will tend to sell strength and buy weakness based on trend. If a stock moves up too quick, sell and buy back when the selling is too strong.

Humans chase after fundamentals, or the perception of. A company that has a good story will attract humans which will create the abnormal strength that the algorithms look to short. Who is strongest determines who wins the war and determines where the stocks go.

Humans are swayed by their emotions, computers are not. Humans are weak when there is market uncertainty. They are weak when the stock is in a downward trend.

That means buying abnormal activity, the clue that something significant is going on, tends to fizzle out more often when there is uncertainty or the stock is in a downward trend. To overcome either requires a very strong human group of buyers, making abnormal volume and liquidity more important during times of uncertainty or pessimism.

If the trend is up, if the stock is moving through resistance, if the market is confident and optimistic, then it takes less force from the humans to beat the computers. We saw that today as the uncertainty around the US debt limit was postponed and the retail investors came back. The result was better follow through on the abnormal stocks.

At this point, just a theory but something to keep in mind when you trade.