The Random Walk Theory essentially states that there are no discernible patterns in stock market prices. The logic and reasoning goes like this. News moves the markets. News is both unpredictable and random by definition. At the moment of discovery, the new knowledge or information is no longer new and quickly becomes old news. Since free financial markets are free of constraints, this new information is continuously reflected in the prices of relevant financial instruments. Therefore, the world's markets move in a random and unpredictable manner. As an example of randomness, look at these Wall Street Journal market summaries:
July 24, 2002: The Dow Jones Industrial Average soared 488.95 points, or 6.4%, to 8191.29 Wednesday -- their second-highest point gain ever -- as bargain-hunting and short-covering provided a powerful antidote for the persistent sell off. The Nasdaq composite surged 60.96, or 5%, to 1290.01.
September 19, 2002: U.S. stocks slid Thursday as investors were bombarded by bad news from EDS, Morgan Stanley and Merrill Lynch. Few analysts saw the EDS news coming. The Dow Jones Industrial Average fell below 8000, dropping 230.06, or 2.8%, to 7942.39, while the Nasdaq Composite Index sank 35.70 or 2.9%, to 1216.43.
Sept. 25, 2002: U.S. stocks bounced back Wednesday from a four-week sell off as earnings news helped sway sentiment. The Nasdaq Composite Index surged 40.12, or 3.4%, to finish at 1222.29, while the Dow Jones Industrial Average gained 158.69, or 2.1%, to 7841.82.
Sept. 27, 2002: U.S. stocks moved lower Friday, weighed down by concerns about corporate profits and somber economic news. In late-afternoon trading, the Dow Jones Industrial Average fell 250 points, or 3.1%, to 7745, while the Nasdaq Composite Index slipped 13 to 1208.
Nov. 27, 2002: U.S. stocks rebounded Wednesday, with an abundance of upbeat economic data helping push the Dow Jones Industrial Average up 255.26, or nearly 3%, to end at 8931.68. The Nasdaq Composite Index jumped 43.51, or 3.1%, to
1487.94.
March 10, 2003: U.S. stocks sank as geopolitical tensions heightened, and investors steered clear of the market ahead of possible action in Iraq. The Dow Jones Industrial Average lost 171.85 points, or 2.2%, to 7568.18, the lowest since last October, while the Nasdaq Composite Index gave up 26.92, or 2.1%, to 1278.37.
March 13, 2003: Major U.S. stock indexes logged their biggest gains of the year on hopes for a delay in a possible war with Iraq. The Dow Jones Industrial Average surged 269.68, or 3.6%, to 7821.75 in heavy trading, while the Nasdaq Composite Index had jumped 61.54, or 4.8%, to 1340.78.
March 17, 2003: U.S. stocks surged Monday on signs the U.S. will go to war with Iraq, a move some say will remove a level of uncertainty in the market. The Dow Jones Industrial Average was up about 239 points in late-afternoon trading, while the Nasdaq Composite Index was ahead roughly 3.2%. The dollar rallied, while bond and oil prices sank.
March 24, 2003: The Dow Industrials tumbled 307.29 points, or 3.6%, to 8214.68 Monday as investors began to worry that the war in Iraq could drag out longer than anticipated. The Nasdaq composite lost 52.06, or 3.7%, to 1369.78.
July 7, 2003: U.S. stocks surged Monday, with the S&P 500-stock index rising above 1000 as investors pinned hopes on a strong second-quarter earnings season. By midmorning, the Dow Jones Industrial Average was up 179 points, or 2%, to 9251. The Nasdaq Composite Index jumped 45 points, or 2.7%, to 1708.20, and the S&P 500 rose 18.20, or 1.9%, to 1003.90.
May 25, 2004: Major stock indexes regained their footing Tuesday as oil prices fell. The Dow Jones Industrial Average finished up 159.19 points, or 1.6%, at 10117.62, while the Nasdaq Composite Index jumped 41.67, or 2.2%, to 1964.65. The S&P 500-stock index gained 17.67, or 1.6%, to 1113.08. Crude fell to $41.14 a barrel.
August 6, 2004: Stocks sank to their lowest level of 2004 as Wall Street expressed disappointment over weak payroll data. The Dow Jones Industrial Average fell 147.70, or 1.5%, to 9815.33, the Nasdaq Composite Index dropped 44.74, or 2.5% to 1776.89, and the Standard & Poor's 500 Index shed 16.73, or 1.6%, to 1063.97.
Aug. 10, 2004: Stocks climbed Tuesday after the Fed raised rates and said the economic soft patch was temporary, caused by high energy prices. The Dow industrials climbed 130.01, or 1.3%, to 9944.67, while the Nasdaq composite grew 34.06, or 1.9%, to 1808.70.
Of course there is a positive upward movement over 15 to 20-year periods in diversified portfolios due to the compensation that investors receive for subjecting their capital to risk. The higher levels of the right risk factors correlate to higher expected returns over long periods of time. But the positive upward movement is virtually invisible when looking at returns over smaller periods of minutes, hours, days, months, or even several years. This positive movement is so small that Nobel Laureate Paul Samuelson compares it to watching grass grow. Go out in a big field and take a look.
As a side note, the reason markets trend upward is that the sun shines on capitalism, as your cash provides the fuel to fund profitable ventures. Your cash can be injected into the market through the purchase of products, services, debts or equities. On average, this free market system works better than a central government controlled system. Communism still exists in only a few countries where there is a mentality similar to that of active investors. This mentality is based on the falsehood that free markets do not reflect all information. Market speculators and communists both think they know more than the collective opinion of millions of voting market participants. They assume that they possess information that has not yet been picked up by the radar of all traders throughout the world. On the other hand, indexers invest under the assumption that markets properly price assets and risk
The principal objective of the Cash Flow Portfolio is to generate reliable and consistent income from investments, while protecting investment capital through diversification. This income may come from stock or mutual fund dividends, interest from bonds and money market investments. Other forms of positive cash flow may be capital gains from sales of equities or from exchange of foreign currencies.
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About Me
TLassen is a 50-something private investor, despite being licensed for securities trading and portfolio management in Canada, has found himself in the Manufacturing environment for the last 30 years. His career has been spent predominantly in the aerospace industry and he is currently responsible for maintaining compliance to AS and ISO standards for a midsized company in Montreal.
His investment methodology is based on the concepts of economic added value. In plain English, investment returns have to be measured against investment costs. He uses fundamental analysis at the company level to identify best of breed companies and combined with the principles of economic added value, selects companies for long term investments.
The subtle point of Warren Buffet's statement, 'it is better to find a great company at a fair value, than a fair company at a great value' is often missed by investors who attempt to find undervalued companies regardless of their financial health. He belongs to the Buy and Hold camp, but has learned over the years to be flexible by taking profits off the table occasionally.
TLassen maintains 2 portfolios whose principal objectives are to generate reliable and consistent income while protecting investment capital through diversification. This income may come from stock or mutual fund dividends, interest from bonds and money market investments. Other forms of positive cash flow may be capital gains from sales of equities or from exchange of foreign currencies.
In other words diversify, diversify, and diversify some more, between and within the 4 asset classes: Stocks, Bonds, Cash and Tangibles.
His investment methodology is based on the concepts of economic added value. In plain English, investment returns have to be measured against investment costs. He uses fundamental analysis at the company level to identify best of breed companies and combined with the principles of economic added value, selects companies for long term investments.
The subtle point of Warren Buffet's statement, 'it is better to find a great company at a fair value, than a fair company at a great value' is often missed by investors who attempt to find undervalued companies regardless of their financial health. He belongs to the Buy and Hold camp, but has learned over the years to be flexible by taking profits off the table occasionally.
TLassen maintains 2 portfolios whose principal objectives are to generate reliable and consistent income while protecting investment capital through diversification. This income may come from stock or mutual fund dividends, interest from bonds and money market investments. Other forms of positive cash flow may be capital gains from sales of equities or from exchange of foreign currencies.
In other words diversify, diversify, and diversify some more, between and within the 4 asset classes: Stocks, Bonds, Cash and Tangibles.