Are Algorithms Ruling Our Investment Choices?
Trigger-Happy Algos
Humans vs. Machines by Yardeni Research
Dec. 6: It has undoubtedly been a Grinchy 11 weeks since the S&P 500 peaked at a record high on Sept. 20. Uncertainty about trade wars, interest rates, and corporate earnings have combined to cause lots of sideways volatility this year. And yet, with two record highs set this year, the S&P 500 is basically flat for the year at this point.
Both record highs were followed by 10.2% corrections. Given the abundance of negativity baked into stock prices after Tuesday’s rout (on Dec. 4), the holiday spirit has moved us to look for anything that might bring some cheer.
Some market developments suggest that this week’s selloff may be closer to an end than a beginning. For starters, when the S&P 500 fell 90 points on Tuesday, Dec. 4, 10 of its 11 sectors were in the red for the day, with only six industries—including electric utilities, gold, and automotive retail—in the black. When nearly everything wipes out—from the go-go tech names right down to safety sectors—it’s often a sign that selling may be approaching an end.
Such widespread and intense selloffs tend to signal so-called “capitulation bottoms.” Such bottoms don’t always occur in just one day. The bottom of the latest correction in the S&P 500 occurred on Nov. 23. It could be retested and even breached, of course. While Joe Abbott and I are looking for a bottom, others viewing the same chart of the S&P 500 see a major bull market top and are looking for the beginning of a bear market.
However, this year has seen a number of one-day meltdowns like Tuesday’s. We strongly suspect that they were not driven by capitulating humans but engineered, literally, by computer-driven trading algorithms. The “algos” seem to have been triggered to sell by news events suggesting escalating trade wars and flattening yield curves. They tend to be programmed to sell large, liquid exchange-traded funds, which amounts to a “sell everything” trade.
--Ed Yardeni