Wednesday, August 29, 2007

Hong Kong and the Anatomy of a Parabolic Market Rise

Here we see the i-Shares Hong Kong ETF (EWH) and that market's rise to all-time highs, even as world markets have experienced liquidity-related setbacks.

Note the ramping up of volume as price has moved higher. We know that volume and volatility are closely correlated. When we have a parabolic market rise, we see market volatility expanding in the direction of market trend. New high prices are attracting further interest, and that keeps the rally going.

Apparently, in the wake of news that investors in mainland China will be able to invest in Hong Kong shares, there's an expectation of further good things to come: the Hong Kong bourse is investing considerable sums to expand that market's ability to handle increased transaction volume.

These parabolic rises tend to end badly, as we saw in Japan in 1980 and in the tech stocks in 2000. For now, however, you have to be impressed by a rally that hasn't been derailed by credit concerns, weakness in the U.S. and Europe, and worldwide risk aversion.

9 comments:

Bri said...

That looks to be around a 21-22% gain per year. While nice I don't think that can be considered parabolic. Now compare that to something like EWZ...

The Financial Philosopher said...

I'm not a trader but the "parabolic market rise" appears to be driven by the same signals the brain's limbic system "fools" people into believing a trend will continue in the same direction. Could a parallel be drawn to the rise in lottery ticket sales dramatically increase as the "jackpot" gets larger (even though the odds are "winning" are less)?

procol said...

Sorry, but odds of winning are not less as the pot increases. You are confusing the number of players with lower odds.

The chance of picking the winning number is exactly the same, though the chance of doing it alone is less.

Brett Steenbarger, Ph.D. said...

Hi Bri,

I'm defining parabolic in process terms, not in absolute price change terms. It's where we see a rising rate of ascent over an extended period of time fueled by increasing volume.

Brett

Brett Steenbarger, Ph.D. said...

Hi Financial Philosopher,

Great point: while volatility tends to persist from one time period to the next, direction does not necessarily possess the same serial correlation! Those parabolic rises can reverse hard.

Brett

Brett Steenbarger, Ph.D. said...

Hi Procol,

Actually, the odds of winning on momentum trades are improved in the short run and diminished in the longer run per the momentum lifecycle research conducted at Cornell Univ.

Brett

weightoftheevidence said...

The Hong Kong market is NOT the parabola!!! The Shanghai market is ... Here's a much better chart ...that shows declining volume on the latest surge, which if true, generally isn't considered bullishly.

http://www.findata.co.nz/markets/Quote.aspx?e=INDEX&s=SSEC

The Financial Philosopher said...

Procol, you remind me of my MBA statistics professor (that's a compliment). Yes, the odds of picking the "winning" number never changes. I should have specified that the odds of one person winning the entire pot decreases with more participants. With that said, though, the same flawed emotions attract more lottery ticket buyers as the pot increases in size as an analalogy drawn to higher stock prices and investor "herd" behavior.

Thanks for the clarification...

Brett Steenbarger, Ph.D. said...

Yes, I think Shanghai and HK are part of the same picture, reflecting the movement of savings from the mainland into financial assets.

Brett