I think that the more positive tone of world stock markets over the past few days is more than a technical bounce–which is what I’m hearing media pundits describe it as. I’ll get to that tomorrow. Today, I want to write about what a technical bounce is.
technical + bounce
The bounce part is pretty straightforward. It’s an upward movement. There’s also an underlying suggestion that its scope will be limited and its duration brief.
Technical analysis is the study of the patterns formed by the price movements of the little pieces of paper–or, in today’s world, electronic blips–that stock market participants trade among themselves. (This is in contrast to fundamental analysis, the study of the relationship between the movement of equity prices with the changes in the economic performance/prospects of the companies whose ownership the pieces of paper/blips represent.)
So a technical bounce is a brief, limited upward movement in stock prices that’s based solely or chiefly on stock charts–not on either company-specific or more general economic developments.
what are the signs a “bounce” is coming?
There are several:
–prices should be declining for at least a period of weeks.
–the stock or the market should have given up a significant portion of the most recent prior advance. Technical analysts seem to like fractions, so 1/3 or 1/2 are the numbers I’ve seen most frequently used.
–volume should be increasing as the decline continues. That’s probably a less important criterion than in the past, since so much of today’s trading is done by computers arbitraging small differences in price levels.
–daily price declines should be larger than normal–and getting progressively bigger. This signals both that sellers are getting more anxious and that middlemen or buying investors are becoming increasingly reluctant to take on more stock.
–selling sometimes reaches a crescendo. Stocks that typically move, say, 1% in either direction during a day fall at a 5% or 6% daily rate. Buyers have stepped to the sidelines, but sellers still push prices down in a panicky desire to rid themselves of stock. This sometimes also means that what’s going out the door is the tail-end of a position, where getting the trade completed is more important than the price achieved.
only a bounce
The strong implication of saying an upward movement is a bounce is that it is (merely) a counter-trend movement, not a fundamental change in market direction. The suggestion is that it’s the speed and intensity of the decline that’s being reacted to, not the fact of falling prices. The implicit expectation is that after a short period of time the decline will continue.
I think it was the colorful market commentator Barton Biggs who coined the term dead cat bounce to describe a market movement. At least, he’s the first person I heard use it. In dismissing the significance of an upward market movement, he once claimed that even a dead cat thrown out an open window will bounce when it hits the pavement. What brought this analogy to his mind, I don’t know. I suspect the statement isn’t even true. But it has become part of Wall Street lore, nevertheless, as a designation of a thoroughly deceptive upward movement.
Why don’t I think this bounce is a dead cat? …Germany, the ECB and the Beige Book. More tomorrow.