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The Charlatan Narrative

There are charlatans that pose as technical analysts or even quants. A frequent narrative these charlatan use involves a rise in stocks and they justify it with some trivial analysis. They should be telling us instead when the market will fall, not when it will rise. Then, we will know if they know anything. Read below why.

The stock market has a strong upward bias as an analysis of the data shows. Since 1950 and on a daily basis, the S&P 500 was up 53.7% of the time. On a weekly basis, the index has gained 56.7% of the time. Then on a monthly basis, the index is up 59.4% of the time.

As the timeframe increases, so is the success rate. On a quarterly basis, the S&P 500 has gained 64.8% of the time and on a yearly basis, 71.2% of the time.

Below is a chart for the daily timeframe with data for all other timeframes mentioned:

SPX_20151116

Therefore, if someone claims that the market will go up in some timeframe and does that very frequently, while justifying that using some trivial but dubious analysis, then the odds that this charlatan will be correct on the average are given by:

Odds = p/(1-p)

where p is the probability of success.

The table below shows data for the various time frames mentioned:

Timeframe Success rate Odds in favor
Daily 53.7% 1.16:1
Weekly 54.7% 1.30:1
Monthly 59.4% 1:46:1
Quarterly 64.7% 1.83:1
Yearly 71.2% 2.47:1

It is clear from the above table that for the stock market, the odds of a gain in any timeframe listed are in favor of charlatan analysts. We are not talking only about charlatans who pose as technical analysts in front of a crowd of uninformed individuals that never take the time to do simple statistical analysis of this sort. We are also talking about highly paid professional analysts that every quarter, or year, claim that the market will go up when they know the odds are overwhelmingly in their favor.

Therefore, if the odds are in favor of up moves in these timeframes, we can only judge the abilities of an analyst when there is a solid track record of forecasting correctly down moves, where the odds are against him. Actually, I do not need anyone to tell me that the market will go up tomorrow, next week or next year because I know that the probability for that is higher. I need someone to tell me when to protect my capital by selling and then taking advantage of the longer-term bias by buying at lower prices. This is the key to stock market investing success. I do not see many analysts being successful in doing this in the longer-term. Some, who in the past succeeded in forecasting a market crash, failed miserably with successive trials. The market has the ability to fool even the smartest analyst. This is one reason that the market has survived for so long and has reached new highs while some of the analysts have changed profession after reaching new lows.

The conclusion from the above analysis is that when you hear an analyst claiming that the market will go up tomorrow, next week, next month or even this or next year, and presents for that some trivial explanation that is not based on sound statistics or a validated model, then it is possible that he is a charlatan that tries to build a carrier by taking advantage of the structural upward bias in the stock market.

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