shoulda seen it coming
shoulda seen the signs
shoulda seen it coming
Must've 'bin blind
SAN FRANCISCO -- To paraphrase that "great" philosopher/muse Bryan Adams, many investors knew
was going to give before Wednesday's tumult. Stocks and stock proxies had risen far beyond what the nascent economic and earnings recovery could sustain, but such concerns were aired long before the recent declines. As is often the case, they didn't matter until they mattered.
Hindsight being 20-20, one way investors could have known a comeuppance was coming was the lack of volatility in the weeks preceding the downturn.
In an era when many commentators chose never to speak ill of stocks, volatility become a euphemism for a down market. But, of course, volatility describes a market moving sharply in either direction. Today's rise -- major averages were solidly higher at midday -- after yesterday's fall therefore represents a continuation of volatility, not the end of it.
Major averages had mainly been moving sideways since mid-November, prior to the past week of setbacks. Additionally, the Chicago Board Options Exchange Market Volatility Index (VIX) had steadily declined from more than 37 in mid-October to as low as 22 in early January. Many observers noted the relatively low levels of the VIX, but perhaps equally important, the index traded at or below 24 for the better part of a month before its recent (modest) uptick.
Often times, such an absence of volatility is the harbinger of its onset, as my colleague Dan Colarusso
detailed this morning.
"Volatility is cyclical and low volatility is a good forecast for high volatility," quipped John Bollinger, founder of BollingerBands.com in Manhattan Beach, Calif.
In addition to the action in the major averages and the VIX -- which Bollinger noted is a measure of
volatility and not volatility itself -- he said a "squeeze" had developed in the
and S&P 100 indices in the weeks prior to this one.
Bollinger Bands are curves drawn on a chart in and around the price structure of an instrument -- in this case stock indices -- that provide relative definitions of its high and low, according to Bollinger's Web site. In the nomenclature of Bollinger Bands, a squeeze occurs when the "bandwidth" -- the upper band minus the lower band divided by the middle band -- hits a six-month low. Most trading software packages provide functions to track these indicators.
For the S&P 500, a drop in bandwidth below 2% -- which recently transpired -- "has led to spectacular moves," Bollinger commented. "When the bands narrow drastically, a sharp expansion in volatility usually occurs in the very near future."
This may all sound like technical mumbo-jumbo to some readers, but the main point is that investors need to be aware of what the absence of volatility implies. Secondly, they should know that "the vast majority of squeezes result in a head fake," Bollinger said.
The implication being that yesterday's decline may not be the beginning of a sustained downturn, a notion confirmed by today's early action.
Aaron L. Task writes daily for TheStreet.com. In keeping with TSC's editorial policy, he doesn't own or short individual stocks, although he owns stock in TheStreet.com. He also doesn't invest in hedge funds or other private investment partnerships. He invites you to send your feedback to
Aaron L. Task.