The Chicken or the Egg?

[ezreddy]

This is probably a newbie type question but it is one that I have never seen previously and have not read enough about the markets to understand. This is for US equities since I have also not studied any other markets in as much detail; hence, I am beginning to learn the depths of my ignorance for these particular markets and can claim to know all in the other markets. But I digress...

Anyways, as I watch the markets and specific stocks, it is apparent that they seem to follow the same general trends. For example, the Nasdaq Composite can certainly be graphed and in most cases stocks from the Nasdaq follow along this general trend. If I were asked a couple of years ago what a composite graph would look like, I would think it is the sum parts of all that make up that graph. With that said, I would expect that most stocks would follow their own trends based on their current price and current outlook. Now it does happen with extreme news, but then the price hits a particular level and follows the exact same ups and downs of the rest of these Nasdaq stocks. So does this mean that all of these market makers sit around and adjust their bid and ask prices based on the overall Nasdaq composite? If so, how does the Nasdaq composite move if it is just an amalgam of all of the Nasdaq stocks?

This just seems like a herd mentality type of setup rather than pure analytical thinking. I guess the traders are like a bunch of ladies who work in the same office; no matter what they thought prior to arriving, eventually they are all on the same cycle. Being a fairly independent person, this whole thing is just kind of depressing. Anyways, there is my rant and I didn't even ask if anything flew.

Let's not even mention the daily similarities between the S&P 500 and the Nasdaq.

Comments?

 

[StockHunter]

I found the same thing, so I wound up using ETF's to play the indexes instead of trying to pick a single stock all the time. Only time I'll trade a single stock now is when it has it's own news going on to move it.

 

[Calinor]

Most indexes seem to be a weighted average of the individual stocks. Sure an individual asset can and does go where it wants but the heavyweights and the index should have some correlation.

But if you're asking why should this asset move up at all just because the Nasdaq, or the Dow or the FTSE are moving up? Well suppose I have a chicken and an egg (your title not mine ). You'd probably be very happy with the idea that if eggs go up in price, my chicken should also become more valuable. Now suppose I have different types of chicken that lay different types of eggs. Some of these types are more popular than others, some we don't like. And on a day the market achieves what it believes is a fair price for those eggs. Now the next day suddenly eggs are all the fashion, and everyone wants to eat eggs. Even though the unpopular eggs weren't very desirable before, wouldn't they also go up in price? If they're really bad, maybe they won't. But they'd have to be pretty bad, because eggs are in great demand, and it is just possible some more people might start liking these dodgy eggs. Obviously more complicated than this, lol, but it seems reasonable to me.

Anyway, I think if you are a trader of stock, and you don't look at what the overall index is doing (demand) or how the group i.e. metals, energy, banking, of that stock is doing (fashion), then you'd be missing out on important info. So since traders will do that, you should get these effects at times. At least that is my simplistic view of things.

 

[ezreddy]

First, why did I title this the chicken or the egg. I would have thought the index was a product of the individual stocks; hence, the MMs determine the individual stock direction and this in turn results in the direction of the index. If that is so, then the individual stocks would not follow the index quite so close. So that leads me to believe that the index dictates the direction of the individual stocks unless there is some event or sudden group dynamic which takes this individual stock in a different direction.

Because of these observations, I have begun to change the way I try to trade. I have recently begun to look at scalping and the relationship between the market and individual stocks is an important consideration in selecting trades. I generally look for the stocks that are not following the market. Why? These generally will have better short term moves that can yield better profits. I am therefore looking for stocks in which the investors are reacting to news on that individual stock. That will determine a short term move and hopefully result in a nice scalp. This is more prevalent at the beginning of the trading day when the MMs hedge the opening price of a particular stock. Where will it go next? I don't always know, but it usually will be independent from the market for a short period of time and has its own dynamic.

While this is not really a revelation to most, it helped me in understanding the type of stock that I wanted to trade. I guess I am looking for the Robert Frost type of stock; you know, the stock that took the chart less traveled.

 

[Calinor]

Yeah, there are some people that suggest something like this. For example the indices are falling, but one company is actually rising. That suggests some strength, and that when the indices go up, that will go up even more. This doesn't need to be done on a scalping basis though. But yeah, sounds interesting. Let us know how it works out.