Charts are the most widely used tool in the stock market. It is a tool preferred by brokers because it provides retail investors the comfort of having to experience a seeming cerebral exercise called “analysis”, thus encourages trade churning. Yet trade churning only buys these brokers their McMansions and yachts at the expense of their clients.
Aside from trends, patterns and price level analysis, various stochastics and oscillators provide the cosiness of having attained specialized knowledge to its users. It is the equivalent in economics called ‘econometrics’—quant models. Such provides a placebo of confidence especially when price momentum coincides with the 'preferred' direction of such models.
Even fundamental based experts, like fund managers and institutional financial analysts, rely on chart. They see this as a means to parlay their statistically founded “theories”. They also see this as a tool to enter and exit positions.
But one essential thing that the public does not know, and which unfortunately ‘experts’ (institutional, media and some independents) barely convey to them, is of the exercise of tradeoffs between probability and payoff.
For instance in the current climate, the blowoff phase have been rationalized in the context of various economic or fundamental premises. Such justifications can be summarized in a slogan “HIGH PRICES equals G-R-O-W-T-H” and its derived reductio ad absurdum + post hoc conclusion, "therefore because of G-R-O-W-t-H, Prices will Continue to Rise"!
So high prices can only mean HIGHER prices! Get in before the train departs, they say.
But the train has already left.
Yet blowoff phases, again which are all in the charts and which are disregarded by experts because they do not fit into their biases, provide a wonderful blueprint of potential tradeoff between returns and losses through the lens of probabilities and payoffs
I have shown blowoff phases of AC and TEL.
And like clockwork, blowoff phases hardly ever provide sustainable returns. They indeed boost the dopamine, but the probability of success has been, based on history, close to ZERO!
SMPH should be no different.
But SMPH provides a twist.
In the world of marking the closes, there was an exemption so far. A minor 28% run at the close of December 2014 has not encountered a serious selloff. This seems to share the same fate as with the 1998 ‘exemption to the rule’. (see below)
Nonetheless, outside the exemption, in the current setting, gains from the other minor spurts had been eliminated. Prior to yesterday’s marking the close “dump”, SMPH has scored a 31% return from the January troughs.
Note: I consider all less than 30% as minor runs while over 30% as majors
Now let us rewind back to the past to a get a clue if previous encounters will reinforce today’s momentum.
Those major blowoff runs in 2013 (upper) and 2007 (lower) all ended up with the Newton’s third law of motion “For every action, there is an equal and opposite reaction” and the “law of gravity” as the predominant forces that dictated on SMPH’s long term price actions.
In short, in both instances blowoff phases only gave back about all or 100% of the previous gains!
Note I didn’t put the numbers on. It’s too time consuming.
Again we see the same dynamic unfold in 1998-2000 (top most), 1996-1998 (middle window) and 1994-1995.
Just with a twist.
In 1998, SMPH had another seeming exemption. It soared by 62% in just one and a half months! The intensity and speed was far greater than that of today. Surprisingly there was no pullback then. That’s when seen from the short run perspective. What it did was to consolidate.
After a hiatus, a minor 23.4% run piled on the 62% gain by mid 1999s.
Nonetheless, when the correction appeared, the whole edifice came crumbling down. SMPH crashed by 35% by October 1999 and further slumped through the 1Q of 2000.
At the close of the said cycle, Newton’s law and the law of gravity prevailed again!!!
SMPH gave back both 62% and 24% as its price level fell back to where they started in 1999!
At the longer perspective, SMPH’s 62% run was not exempted at all. That time was no different.
So from SMPH’s case, sustained returns from blowoff phases may not be exactly ZERO but they are CLOSE to zero. They could be seen as statistical fat tails.
But unlike fat tails which may provide big returns, they don’t. The succeeding gain of 1998 was smaller then initial ramp. The gain from today is just about a little over 2014's run. But the overall gains of 1998 was bigger than today 1998: 62+24 2014-2016: 28+31).
Risk analyst Nicolas Taleb would call this “picking up a penny in front of a steamroller” or Taleb Distribution
Yet the longer picture matters. Because even if there has been no immediate retrenchment, a full cycle shows that it will.
And the payoff from chasing wildly escalating prices or blowoff phases are close to 100% in terms of losses.
The history of price action says that if you buy today then you are almost guaranteed to lose money. The burden of proof lies on its propagators.
Yes, the respective histories of AC, TEL and SMPH’s all share of the same lesson.
Should such lessons be subverted by mere beliefs? Will this time be different?
We will and shall find out....soon
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