Artificial intelligence is no longer a futuristic concept that we see unfolding only in movies. It’s real, and it’s affecting our everyday lives today — it even causes fluctuations in the stock market.
The year 2018 saw some larger swings for the broader equityindexes in the United States. In fact, 5 of the 10 biggest single-day gains anddeclines for the Dow Jones Industrial Average happenedin 2018. While the intra-yearlows were in line with historic norms, the day-to-day swings were much broader.The question is, why?
AlgoTrading vs. Program Trading
One of the factors contributing tomuch of the volatility is the use of algorithms and computers in trading,sometimes called “algo trading.” This term refers to market transactions thatuse advanced mathematical models to make high-speed trading decisions. Many analystsbelieve that the various sell-off episodes seen throughout 2018 were caused bythese machines because they act on immediate data releases without taking thetime to digest them, as humans would.
This is different than program trading. The New York StockExchange defines program trading asany trade involving 15 or more stocks with an aggregate value in excess of $1million. Rudimentary program trading began in the seventies, but with a personmaking the decisions. Today, computers use artificial intelligence andalgorithms to trade independently.
“Eighty percent of dailyvolume in the U.S. is done by machines, so what you get is a lack of focus onearnings, a lack of focus on outlooks, and you just get short-term movementsbased on very specific data that is released every day, and that creates noise,”GuyDe Blonay, fund manager at Jupiter Asset Management, told CNBC’s Squawk Box Europe. In fact, on some days,this program trading can account for as much as 90 percent of the volume. Asthe market moves up or down, programs may look at the momentum and simply sellor buy. That can exponentially increase the volatility without any basis infundamentals.
ArtHogan, chief market strategist for B.Riley FBR, stated, “A machine is making a decision based on the fact that wereached a level to buy or sell. The problem with that is everyone’s algorithmsare pretty much the same; they key on the same trigger points. That causesreally fast momentum swings.”
This isnot like in The Terminator, whenSkynet takes over the world. (In case you’re not an Arnold Schwarzenegger fan and/orhaven’t watched the Terminatormovies, Skynet is a fictionalartificial neural network-based conscious group mind and artificial generalintelligence system that serves as the main antagonist, or character, in themovies.) With algo trading, there is some humanoversight; however, the independent automated trading is a much bigger part ofdaily movement than people might be aware of.
What to Do when the Market Fluctuates
Now that we understand a primary reason why the marketswings were so broad in 2018, then the next question is, what should we do?
The simple answer is that if your portfolio is allocatedproperly based on your personal needs, objectives, risk tolerance and taxsituation, then you can ignore the short term. You do not need to do anything. Wedesign portfolios with volatility in mind — regardless of the source or cause. Westrongly recommend that you make changes to your portfolio based on yourchanging needs and vision — not on day-to-day or month-to-month market movement.
We are happy to discuss your personal vision and review your overall investment planning without cost or obligation. Feel free to contact me personally, or anyone on our team. We look forward to assisting you. Randy Carver – [email protected] or (440) 974-0808
The information contained in this blog does not purport to be a complete description of the securities, markets, tax rules or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any opinions are those of Randy Carver and not necessarily those of Raymond James. Expressions of opinion are as of this date and are subject to change without notice. There is no guarantee that these statements, opinions or forecasts provided herein will prove to be correct. Investing involves risk, and you may incur a profit or loss regardless of strategy selected. Raymond James and its advisors do not offer tax or legal advice. You should discuss any tax or legal matters with the appropriate professional.
