Monday, August 10, 2015

Market Psychology: Part 2

Earlier today I discussed the jump in WTI price after a week of losses amounting to over 6%. Many securities would consider a 2% increase in their price over one market day to be a significant movement, but we see in the aura surrounding spot price for Cushing sweet, light crude a different story. Reflecting on supply data from the week before and poor demand fundamentals from China, financial news outlets don't have any positive news to accompany the gains today. Wall Street Journal's headline article was a report on crude oil futures and how contracts that won't be fulfilled in one to two years are being priced below their counterparts in 2015. Like pessimistic onlookers in the eye of a hurricane, analysts and economists fail to acknowledge the respite provided by the market today. So instead of reading how the Brent crude price jumped over 3% today, investors, the minds behind what drives price rolling across the ticker, are informed how refinery use is at maximum capacity and 10 more rigs are now pumping crude oil. Paul Ormerod, the author of Butterfly Economics wrote about his theory of interacting agents. The theory is based on a study of ants' social interactions. When there were two piles of food of equal size, the first ants of the ant pile would randomly stumble upon the source of nutrients. As those ants brought back food, they would randomly come across another ant and communicate where the pile he discovered was. That ant would replicate the process creating a cycle of retrieving and mapping the food that they had found. In a macroscopic view, the scientists noticed that the amount of ants going to each pile of food (both equidistant from the ant nest) would vary as the incoming ants were affected by the random interaction they had with an ant that retrieved food from either pile one or pile two. Investors are not unlike the ants, but the piles of food are representative of the bullish and bearish sentiment that traders take away and apply to their own behavior in the market.

from WSJ
The chart above shows monthly price changes along with total volume data (black bar signals more buys, red bar signals more sell). July of 2015 shows an egregiously large amount of sellers that have dined at the bear pile and continue to influence other ants in that way. In fact, the increase of "new bears" over "old bears" in May and June has cursed the market to drop at every domestic supply report and all news of weak Chinese stock performance. The new bears, investors and speculators that sell and quiver in fear whenever a known supply glut is reported again and again, have gripped the market and with the support of institutional selling, have driven an overbearing bearish oppression over the price of crude oil. The old bears, sellers in January, February, and March that predicted and hoped for an eventual recovery in the summer, haven been bullied aside. Yes, there is a supply glut, but crude stocks are declining and exports will be increasing soon. A well-known analyst who in January projected $60 dollar oil after a year and now suddenly changes it to $50 is not practicing good analysis. He is riding the sentiment. Like ants, investors scurry around and consume whatever analysis they themselves cannot deduce. If any stock saw a 2%-3% increase in their price, a bullish run would overtake traders monitoring the security. We as oil investors cannot let the market run away from us. No, I do not mean to stifle evidence of oversupply and weak demand. Instead, I wish to assert the reality of the law of averages, the dangers of speculation, and the insanity of a commodity sold over 4 million times in one month.

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