by George Angell
One of the biggest indicators that a trade is ripe for the taking is when the big players, the financial institutions, get aboard. These big-money players could be fund managers, who might manage enormous pensions funded with billions of dollars, or banks and brokerage firms. Because of their size, they are almost always easy to spot. Moreover, they have a certain “herd instinct” that causes them to act in concert with one another. This serves to maintain trends and accentuate a move.
Once you begin to understand the impact of these behemoths, you’ll have a leg up on your timing. Knowledge is power. Once you understand why markets behave as they do, you’ll have the added confidence you need to invest in a more aggressive manner. The stock market and indexes based on the market are all impacted by the activities of the huge, well-endowed interests who buy and sell enormous quantities of stock. As a rule, these institutions are conservative in nature. They don’t want to be caught in cash when the market is rising. Nor do they want to be overly committed to stocks when a top approaches. Every fund manager’s nightmare is to under perform the key stock market averages. Accordingly, they become obsessed with following the crowd.
These big players spend a lot of time eating expensive lunches in fashionable restaurants. It is when they return from lunch to their trading screens that the real fun begins. If the averages are starting to run up, the manager doesn’t want to be left out of the game. He might buy several million dollars worth of stock to keep apace with his fellow institutional players. Multiply this by hundreds of funds around the world and you have the makings of the afternoon trend.
Such market movers have to do something with all that money they are managing. How else are they going to be able to justify their huge salaries and expense account lunches? Being herd followers, they don’t want to miss the market lest their funds be labeled “under-performer” in the next evaluation. So as you approach the end of the day and the market indexes are rallying higher, the funds will typically join the crowd. This further strengthens the trend. And you get renewed, persistent buying into the close.
The fund managers are also major participants in the so-called “derivatives” – futures and options primarily – that can also add fuel to the trendsetting fire. For instance, let’s say the fund manager is a Johnny-come-lately to the afternoon trend. He either missed it or got in late. When the stock market closes at four o’clock East Coast time, he can still profit from the trend since the S&P futures markets trades 15 minutes later. He can buy futures. Now he is protected on the move up if there is follow through – and there usually is. He can even trade in the overnight market if he wishes.
Why does all this contribute to the perpetuation of the trend? Because overnight, as the market continues to rise, those on the wrong side of the market – notably short sellers – will have second thoughts about their positions. Finding themselves in a tenuous position these players will become aggressive buyers. Couple short covering with momentum players starting to buy and you have a legitimate windfall for the trend followers. Can you see how under this scenario the market could get very one-sided?
Put another way, the big institutions can join a modest rally, and soon you will have a much more serious rally as big and small players alike join the crowd. This herd mentality works even faster when the market is breaking. That’s why bull markets climb a “wall of worry” while bear markets simply drop like a rock!