“People are getting screwed because they can’t imagine a microsecond.”
Well, how about $1 trillion? Can we imagine that?
If you want context for the quote, read Michael Lewis’s book, Flash Boys (No. 1 now in NY Times nonfiction). Equally relevant and lost in the shadows of microseconds is the magnitude of the monolithic.
There’s a company you’d know that in the past 20 trading days has had intraday volatility of 108%. That is, summing daily spreads between high and low prices – somebody paid both – equals 8% more than a share costs. The entire value of the company in effect turned over the past month, plus an 8% commission. (Do you know your intraday volatility?)
Divided by 20, that 5.4% daily. Compare to overnight borrowing rates near 0.15% for banks, and 30-year mortgages at 4.4%. Yet beneath its skin, behavioral changes for this stock are miniscule. The average recent daily fluctuation in bottom-up investment – the money you talk to – is less than 2.3%.
There was one monolithic change. On March 24, demand from indexes/ETFs dropped 15%. Just once. Since that day, gradual price-erosion tallies eerily to a 15% decline. A one-day shift in asset-allocation cost 15% of market cap over the following month.
Yesterday we ran a dozen models for public companies reporting results today, weighing demographics and sentiment to project price-reactions. Outcomes are an amalgam of purposes. Without data, it’s impossible to know that price-moves reflect rational thought. If share of market did not change for investors, they didn’t set price, didn’t alter their views.
The Fed in 2013 bought $1 trillion worth of US Treasurys and mortgage-backed securities, pinning interest rates on ten-year US bonds near 1.7% until word leaked in May that it might stop. Between May-Dec 2013, Treasury yields rose 75% and average 30-year mortgage rates jumped 30%.
It’s the same thing. Do you see? One is a microcosm. Your shares. If investors changed their minds, effects may unfold for days, or more. Today shares are suddenly down more sharply and you suppose news must be the cause. But no, it’s a ripple effect that worsens as it moves farther out.
This year the Fed will buy about half the government’s debt and the people’s purchases of homes that it did last year, the hope being that the juvenile recovery will become a responsible adult and start paying its own way. Daily dollar volume in the US Treasury and agency mortgage-backed securities markets combined is about $700 billion (already down $200 billion from mid-last-year yet still more than three times equities).
What we’re experiencing with the Fed is the same in concept as indexes reducing commitments on a single day by 15% in the shares of a company. There will be a chain-reaction. We don’t grasp the monolithic scale, just as we struggle with the meaning of microseconds.
It’s neither good news nor bad. But it’s a fact that it’s unfolding now, tectonically shifting in a thousand tiny shudders. We’re not pessimistic about it; we’re simply aware that as Market Structure Analytics meters behavioral change behind your price, a mathematical observation of demographics that has a logical and consequential construction, the same applies to the Fed.
It’s just monolithic, that’s all.
