Algos And ETFs Might Give Stock Pickers A New Life

Algos and ETFs became a significant part of the market infrastructure. That has changed the market rhythm, and it has amplified certain behaviors. Those changes might be the opening that stock pickers needed to be back on the action.

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Picture: DocChewbacca

Algorithms have been responsible for changing the market rhythm. We have become accustomed to 10% plus after-earnings swings, which wear-off two days later. Presently, it seems like the algos take the lead by reacting to the news, and then, as they turn their attention away, the market seems to normalize. The impact is so big that even very experienced and skilled market participants, like Stanley Druckenmiller, are mesmerized by the impact that it is having on the market.

Another market sophistication that is affecting the rhythm of the beast is the ETF. We might argue that the ETF has brought us the fast-food of macro investment. Pick a sector, and, boom, it’s done, there is no need for deep research. It suffices that the whole targeted market is growing. As a result, when a company has caught the eye of money managers, the whole sector tends to go up.

Both have brought advantages to the market. Liquidity is one of them. Another is facilitating capital to move from one sector to the other. Adjustments are much faster. That also means that speculative flows are likely to increase volatility.

That brings us to the point. For starters, going forward value investors will need to add one more skill: algorithm mechanics. Right now, algos seem to be weighing earnings’ data and reacting to it aggressively. That tends to provoke short term self-reinforcing directional moves. Sometimes, in the wrong direction. And, that will be an opportunity for value investors.

Graph 1 – Adobe stock price from December 13 to January 17

(Click on image to enlarge)

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(Source: Yahoo Finance)

The case in point is Adobe stock price, from December 13, until January 17. Adobe presented earnings on the 13th of December. The results were considered a beat. However, the next day, shares dropped more than 6%. In the 15th of December, the losses continued. On the next day, there was a small rebound, and then, the downward movement resumed until Christmas Eve. By that point, the total losses, since December 13, were 16.45%. Then, without any significant development, the stock started a comeback. By January 17, the stock was back to ground zero.

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