A Market Indicator That Predicts Nothing
Its predictive value is minimal.
Bloomberg, April 29, 2015
Every now and again, a way of looking at markets suddenly gains traction. Data gets assembled, analyzed, reviewed. Eventually, it becomes the basis of traders’ decision-making process. It even can become part of Wall Street lore.
The problem that arises all too often is that this approach is statistically bogus. The data gets cherry picked; backward-looking analysis gets form-fitted to what just happened and has no meaning for what is most likely to happen in the future. Confirmation bias and selective perception can lead an investor to lose objectivity, choosing an approach that justifies an existing portfolio mix, as opposed to objectively evaluating the data.
Consider as an example the ominous-sounding Hindenburg Omen, a technical analysis that purports to signal the likelihood of a market crash. That’s exactly what it’s been doing — unsuccessfully — since 2010. This sort of recession porn allows people to confirm their existing prejudices. After five years of money-losing forecasts, theHindenburg Omen’s following among traders is fading.
But many other dubious or disproven metrics are still out there. Consider the Murdoch Indicator, or the Super Bowl Indicator, or theMascot Indicator or even the Ticker Tape Parade Indicator. A decade ago, I termed this phenomenon YAII — for Yet Another Idiotic Indicator.
The most recent such metric? New York Stock Exchange margin debt. (Margin debt is when an investor borrows against the stocks he owns to buy more shares.) Margin debt has reached an all-time high and, as we have been told repeatedly, this is a fatal sign for markets.
There are two problems with this: The first, and lazier criticism, is to point out that analysts have been discussing the danger of this for at least the past four years (see chart below from two years ago). Margin debt was cited as a precursor to doom in 2011 and 2013 and last yearand again a few days ago.
The more substantive analysis is to note that this is a correlationwithout much predictive value. It is a coincidental, not a leading indicator. Check the historical data and you will find it gives little warning of an imminent market crash.
Let’s delve into the details:
Continues here: A Market Indicator That Predicts Nothing