Is the Stock Market Just a Big Casino?

I hear it all the time, “the stock market is just another way to gamble.” But is it a gamble or a calculated risk?

Let’s back up a minute and talk about balloons. Yep, ballons!

What happens when you keep pumping air into a balloon, over and over and over and over again? It eventually pops, right?

So what do you think happens when you keep pumping money into a company (or index) over and over and over and over again? Eventually, it too pops.

Some companies become so overpriced, for whatever reason (usually has to do with profits), that investors begin to sell their stake in them – the stock pops!

If a company is selling for $50 per share (hypothetical) but it is only worth $20 per share on paper, eventually a sell-off will ensue. The company at $50 just cannot keep up with its profits.

Or maybe they were committing accounting fraud, who knows!? But either way, they’re just too expensive for whatever the reason.

Now, take that same company and multiply it by thousands. Why? Because there are thousands of companies in the stock market. Sure, some might be undervalued (worth $50 but selling for $20). But some are also overvalued (worth $20 but selling for $50). When the balance tips in favor of overvalued companies, you get a bubble. Or balloon, you choose the wording.

When there are more overvalued companies than there are undervalued companies, things get risky when buying. This is when a lot of investors will sit on the sidelines in cash… or, they might buy bonds instead. They see the bubble (or balloon) expanding, and they know it will eventually pop (sell-off).

So what in the hell is my point?

Retail investors (you and me) are always the ones to get caught with our hands in the cookie jar at the top of markets. What happens is this: Joe Blow, your market wizard neighbor, sees that company ABC (hypothetical) has been moving up for a month or more. So what does he do? He says “WOW! This is fantastic. Easy money!”, and he buys shares of company ABC.

This is fine if Joe Blow bought the shares at a decent price. But if he did not buy at a decent price, then Mr. Market and Smart Money might decide to sell their shares soon because the company is now overvalued. And when Mr. Market and Smart Money sell shares, it’s usually in extremely large blocks – millions, if not billions of dollars worth. This, of course, drives the share price of company ABC down. Joe Blow is now bankrupt because he invested his whole life savings into company ABC.

Getting back to the original question, “Is the Stock Market Just a Big Casino?” The answer is a resounding NO, in my opinion.

The problem with most (the average) retail investors is this… they fail to do their homework. They don’t perform technical and/or fundamental analysis on the companies they buy into. They, in essence, have no idea what’s going on. So instead of chocking it up to a learning experience, they simply say dumb things like “the market is a big casino. It’s all just a gamble.”

I firmly believe investing is a calculated risk, and not a gamble. This is just my opinion. I relate it to buying a house; would you go out and buy house without researching home values in the area? If you don’t, you might pay thousands more for the house than you needed to. This basic concept applies to the stock market as well.

With all that said… you are never going to win them all. I don’t know of anyone who ever has. Even Warren Buffett has lost on investments.

But with solid analysis (technical, fundamental, or both), I believe it is a calculated risk and not a slot machine.

Bond Yields are Inverse to Bonds

It’s true. Bond yields are inverse to whatever activity is happening in the bond market. What is up is actually down, and what is down is actually up… confused?

Bonds are issued at face value with a coupon rate. For example: if I buy a bond for $100 (face value), it might have a coupon rate of 5% ($5). This would mean that the bond I purchased will return $5 (5%) if I hold the bond until maturity. This is called the coupon rate. The math is simple: $5/$100 = 5%.

But what if I decide I don’t want to hold that bond until maturity? There’s only one option… I can sell it. In fact, a lot of bond traders do just that – they buy and sell bonds and make money on the difference between what they bought it for and what they sold it for. And this is where the inverse relationship between yield and bonds come into play.

Let’s say I think the market is going to go up and I want to buy stocks. I decide to sell my bond so I can have more money to purchase stocks with. I bought the bond for $100, and it had a coupon rate of $5, for a total maturity value of $105. The yield on my bond is 5%.

Because other bond holders are thinking the same thing I am – that the market is going up and they want to buy stocks – there are a lot of sellers today. When there are a lot of sellers, the price of the bond goes down, but the yield goes up…

I can sell my $100 bond with a 5% ($5) rate for $99. I lost money *cue the tears*. The person who bought my bond, bought it cheaper than I bought it for, and their yield is much better. Here is the math…

Bought: $100 with $5 rate for a total maturity value of $105 = 5% yield ($5/$100=5%)

Sold: $99 with the same maturity value of $105 = 6% yield ($6/$99=6%)

Notice, the maturity value for the new holder is the same as it was for me when I held the bond ($105). But the new holder bought the bond for $1 less than I did. So that person got a discount, and therefore received a higher yield.

There is much more to bond trading than understanding how the yields work. So don’t run out there thinking you’re a bond wizard. Always do your own research before doing anything like that.

But, hopefully now you get the idea. Whenever yields are falling, that means there’s lots of people buying bonds. Whenever yields are rising, that means people are selling bonds.

I am no bond expert, but I do understand the basic concepts. I believe it is important to know because it might give a clue as to which direction the overall market is heading.

In general… VERY VERY general… When there are lots of bond buyers, and yields are falling, that means people are getting scared. They want to invest in the safety of bonds. U.S. treasuries/bonds are considered to be super safe. Less risk, however, equals less reward. Hence why yields are very low right now.

Ominous Signs in this Market Indicator

The stock market has been on a rip lately. The S&P has risen well above 3000, and currently sits at 3120.5 (^GSPC Chart). But how high will we go without a pullback? More importantly, how big will that pull back be?

Yesterday, while trying to find clues, I put the ‘On Balance Volume’ indicator on my SPY chart. This indicator basically gives you an idea of accumulation and distribution in the market; it tells you, in general, if the market is scooping up shares, or selling shares. I use the OBV from time to time, but have not used it in a while. What I found was scary.

SPY chart as of 11/15/2019

Notice the descending trend on the OBV indicator? More importantly, notice the pullbacks that have happened each time the OBV dropped in relation to the market rip higher?

At the end of last year we had a correction. The markets tanked for a couple months, and finally bottomed out on December 31. Since then the market has climbed to all-time highs setting record after record.

Our first substantial pull back of this year happened right after the May high. This is when the Trump administration basically said a deal with China was currently off the table. The markets did not like the news one bit, and down it went. From there it rallied to new all-time highs in July.

Same story in July – more negative trade news, and the market soon fell. However, the fed started to talk about lowering interest rates, and the market liked that. It soon rallied again in September and met up with the July all-time high. Then, of course, another pullback on… you guessed it… negative trade news. Since the pull back bottom in early October, we have rallied to even higher highs. The market is on a rampage!

But there are ominous technical signs that this is not sustainable without some sort of pull back or correction. Take a look at the chart one more time:

SPY chart as of 11/15/2019

The blue vertical lines are meant to show the market highs in relation to the OBV. The red arrows, of course, are pointing to the highs of the OBV in relation to the blue lines. The blue dashed line on the indicator shows the May OBV high, and the purple dashed line shows the July OBV high.

Notice, each all-time market high comes with a lower OBV high. This is divergence. The On Balance Volume indicator is showing divergence with the overall market.

After the July market high, the market pulled back. The OBV might have predicted this, as it could not reach the May OBV high. Same story for the September rally – the OBV might have predicted that one as well. This time, the September OBV could not reach the July OBV high or the May OBV high. And here we are today. The OBV is right at the September OBV high, but well below the July and May OBV highs.

Quite a tongue twister that last paragraph was. LOL! But you get the idea.

There is one other ominous sign the OBV is giving me. Notice the OBV has been slow to rise during this current rally when compared to the other rallies? That is showing that there is lack of conviction in this move. It seems market players are leary about moving forward on the current trajectory. The other rallies showed steeper OBV rise.

As I always say, this does not guarantee a pull back or correction will happen any day now. There is no “holy grail” of market indicators. The OBV is no exception to that. This is just something I noticed and wanted to share.

This post is my opinion only, and should not be taken as advice. Always do your own research before making any investment decision. Seek professional and licensed advisers if you are unsure.

How Accurate Can They Be?

I have always been split 50/50 on the Market Efficiency Theory. What this theory suggests, is that all information is already baked into the share price. This is the premise behind technical analysis.

If a stock is trading at $100 per share, market efficiency tells us that the share price is absolute (more or less) and has already factored in all available information. The theory suggests that the share price is reflecting company financials, company direction, company head-winds, and any other company info that might be important to know. No work is needed on your part, says the market efficiency guru.

So, I did a little study to see how accurate consensus estimates are. After all, if market efficiency is true, then you would think estimates would be somewhat accurate. Wouldn’t you? If a share price is absolute, and “is what it is,” then the market makers who set these prices have to base them off of something. Company financials are certainly a big part of the theory.

First, here were the rules for my study:

  1. I couldn’t pick the companies. I asked my Facebook group to pick random companies. Those companies had to be legit, and could not be garbage OTC companies. However, I did have to switch 4 companies on my own, as the previous 4 did not have enough financial data on the website I used. The companies I picked were ROKU, AMZN, AMD, and Macy’s. I used 10 random companies total.
  2. I used the same financial website for all data. I used Markets Insider. I also used the same 3 quarters of information for all companies.
  3. I used earnings per share (EPS) and revenue (Rev), as those two are the “big” ones that are looked at closely.
  4. I simply took the difference between estimate and actual, and then found the percentage in which it was off from the actual. From there, I subtracted the percentage it was off from 100%, and used that as my study’s accuracy level.

So what did I find out? Let’s see…

The first 5 companies: Disney, Tesla, Apple, Shopify and Amazon.

The second set of 5: Goldman Sachs, Kinder Morgan, Advanced Micro Devices, Macy’s and Roku.

The overall accuracy for EPS was 73.36%, and the overall accuracy for revenue was 95.87%. That’s pretty impressive if you ask me. The only companies that brought the overall accuracy down were the “wild card” companies: Tesla, Shopify, and Roku. I call them wild cards because they’re technology based. Except Tesla. Tesla is a wild card because it’s a new space in the auto sector, and their CEO is a little bit of a loose cannon.

You can take what you want from this little study of mine. But for me, it brings me a little bit closer to believing the efficiency theory. Am I all in on it? Nope. But I’m closer than I was before.

However, there is still the unforeseen to contend with… Elon Musk tweeting that he may de-list his company and go private, for instance. Or the sex scandal at CBS, or shady accounting practices at Enron. The list goes on. There is much in the market that makes things not efficient.

As I always say, there is absolutely no way to predict the market with 100% accuracy. There never has been, and there never will be. But, I’d take 73.36% or, even better, 95.87% accuracy ANY day of the week!

The Put/Call Ratio Charts

In the Dumb Money Trader Facebook Group today, I posted this pic with the comment “I look at put/call ratios from time to time. In specific, $PCSP and $PCALL. Noticed that both bottomed today. Bottomed where they’ve been hitting bottom for quite some time. These charts sometimes coincide with what the market does – the same seesaw effect. Meaning, if PC hit bottom, the market may pullback soon.

Somebody replied to it basically asking what I meant, and what is the PC ratio telling me. And his question was my inspiration for this blog post. So here we go!

First, the only 2 PC charts I use are 1) $PCSP (put/call ratio for the S&P 500) and 2) $PCALL (put/call ratio for the entire market). There are others, but I will not get in to them right now.

The P/C ratio chart (I call them PC’s) is the ratio between puts and calls. Remember from options 101 that puts are bearish, and calls are bullish. To know what the ratio is you simply divide all the puts by all the calls.

Let’s say there are 1000 puts and 500 calls. The put/call ratio would be 2 (1000 puts divided by 500 calls). Now let’s say there are 500 puts and 1000 calls. The put/call ratio would now be .5 (500 puts divided by 1000 calls). Lastly, let’s say there are 1000 puts, and 1000 calls. The put/call ratio would be 1 (1000 puts divided by 1000 calls).

So now that you know the basic math involved, let’s discuss the basic theory behind this ratio.

According to Investopedia, a ratio above .7 is considered bearish, and below .7 is considered bullish. That is, above .7 means there are more people buying puts than buying calls. Which can be a bearish sign. Why .7? Simple. Since people typically buy more calls than puts, using a ratio of 1 would not be “accurate” to determine market direction because that would imply a 1 to 1 split between puts and calls. So, the investing gods decided .7 was a good “middle” point. Honestly, past what I just told you, I don’t know any other reason for .7 being “neutral.”

Now, what can this ratio tell us? I use these charts from time to time, to help me determine which direction I think the market is going. If I open this chart and see a rising PC, I may go easy on my bullish bets. But if I open this chart and see a falling PC, I may increase my bullish bets. I have noticed that this ratio sometimes coincides well with market moves. Meaning, I have noticed that some very bearish days in the market was preceded by a rise in the PC ratio.

If people are getting bearish, they’re not going to buy calls, and vice versa if people are getting bullish. So, if the PC is rising, that can be a sign that people may be getting more bearish because they are buying more puts. If the PC is falling, that can be a sign that people are getting more bullish because they are buying more calls. As always, does this mean it’s guaranteed bearish or bullish sign? Absolutely NOT! But the more tools you utilize to make investing decisions, the better off you might be. No one particular “indicator” is going to be 100 % accurate.

Investing is like a puzzle – You have to put all the pieces together to see the bigger picture.

Record Close for SPY Today

What a GREAT day it was for my account! New highs, and new record close. I’m still bullish, but with caution.

Click on the chart to visit my Trading View page.

A couple good things to note from today. 1) Volume was kind of weak until the end. It wasn’t horrible, but it wasn’t great either. It did pick up and ended up closing with about average volume. That’s a good thing. Low volume plus the record close would maybe be a bad thing. 2) The RSI divergence I wrote about yesterday is pretty much gone now after today. That is also a good thing.

Now, a couple of bad things to note from today. 1) The market is just one negative tweet, or one negative trade war news story from sending it down. That is enough to make me proceed with caution. I am still bullish, of course, but I’m cautiously bullish. 2) Jerome Powell (the Fed) speaks on Wednesday afternoon. He has moved the markets before, and he could move the markets again. If the market is looking for a 50 BP cut, and we only get a 25 BP cut, that could be bad. Or, even worse, if there is no cut at all that would be VERY bad for the markets. Everyone wants a cut, regardless if it’s a good thing or not.

Keep your eyes peeled and stay vigilant. Being at these all-time highs, a lot could go wrong. But, a lot could go good also. We will just have to wait and see what the near-term future holds for us.

My guess… and this is just MY guess alone… is that we move up and play in the $315 to $325 area for SPY. If negative news comes out, or if Jerome Powell dissapoints, forget about it! We would then probably fall well back into the $290’s.

Good luck to all, and may we all profit!

Does Number of Shares Matter?

I can’t tell you how many times I am told that “Amazon is too expensive!” Or, “I can’t buy that, it’s too expensive. It wouldn’t be worth it.”

Time and time again, it never fails. But is a stock being “too expensive” a reason not to buy it? Here is the argument (usually) for not buying the stock because it’s too expensive: Because you won’t be able to make enough money, because you can’t buy enough shares.

Ok… So I’d be a liar if I said I did not think the EXACT same thing when I first started out investing. I thought you had to buy a million shares of something to make a good return. Until one day my dad said “you know a percent of $1,000 is the same regardless if it’s one share, or two, or three, etc… right?”

I was dumb-founded by such a ridiculous comment. “Ughhhhh!” I thought, “how dare he question my judgement.” After all, I was a brand new investor/trader and new everything already, DUH! I knew without a doubt that the more shares you had of something, the better off you were. I was sure of it… until… I thought about it.

Let’s use $1,000 as a nice and easy number. Assume that stock ABC (hypothetical company) is selling for $1,000 per share. And stock DEF (hypothetical company) is selling for a measly $100. Obviously I can make more money with 10 shares of DEF, than I can with one share of ABC, right??… NOPE! And here is why:

(Not including fees) I buy 10 shares of DEF at $100 per share, for a total of $1,000. You buy 1 share of ABC at $1,000 per share, for the same total – $1,000. A month later, both company’s stocks are up 15%. WOW! We nailed this trade. GREAT JOB! So who made more money? We both made the exact same amount… I know, right! Shocking!

Your 15% gain on 1 share of ABC is $150. My 15% gain on my 10 shares of DEF is also $150. Wow, who would have guessed!? See my point? It makes no difference what the share price is. The ONLY thing that matters… let me repeat that… the ONLY thing that matters is how much money you are willing to spend and/or risk. That’s it!

I bring this up because of Amazon – a very high priced stock, but a very good company (in my opinion). Amazon right now is selling for roughly $1783 per share. Would my money be better spent on 10 shares of something that costs $178 per share? Or even 20 shares of something that costs $89 per share? Or would my money be best spent by purchasing one share of Amazon? In the end the money spent is the same, the number of shares makes no difference at all.

Don’t let the price tag turn you away. Good solid company’s sell for whatever that good solid company sells for. Maybe there are GREAT stocks for under $100 (and there are, trust me). But maybe that $1,700 stock is also a really good buy. Always remember that the amount you have to spend and/or risk is all that matters. The number of shares you own should mean nothing to you.