Reducing Noise Intake-From Mandelbrot to StockTwits

Yesterday I returned from a 3-week sojourn on the island of Malta. On the 10 hour flight from Dusseldorf, Germany back to Miami I decided to reread Mandelbrot’s The Misbehavior of Markets, a book which I had made the mistake of reading during my first year of finance/market education. The book is a must read for anyone interested in economics/finance/markets/statistics etc. When I first read The Misbehavior of Markets, many of the concepts were lost on me as I didn’t have as deep an understanding of modern finance theory as I do now (particularly after having passed the CFA Level 1 exam and having prepared for the CFA Level 2 exam). Without delving into great detail (I will leave that to another writing, probably a much longer one), Mandelbrot made a point which struck me as being particularly relevant to our current situation in the markets of 2011, especially as we enter earnings reporting season this week: When markets are moving fast and with elevated volatility it is important to be able to slow things down and take it all in.

“Imagine for a moment that you could take the tape-the New York Stock Exchange’s ticker, or the Reuters record of currency quotes-and play it fast or slow, like a videocassette tape. Run it slowly when prices are flying; there is so much action packed into the tape that you can only see it all by liberal use of the “pause” and “review” buttons. Speed it up during the boring parts, when there is little new information to digest. This is, it turns out, exactly how to analyze a financial market-and exactly how my current and best mathematical simulations of the market work.” The Misbehavior of Markets -Mandelbrot

Unfortunately, there is no pause button for markets so how can we accomplish this as traders? Athletes often talk about the concept of the ‘game slowing down’ when they are really in the zone. Of course the game doesn’t actually slow down, they mean that they are able to see things more clearly and process the action better. How does this occur? Through long hours of practice, study and improving the athlete’s muscle memory they are able to reach a state of flow even during the intensity of live game competition.

Traders can achieve the same ability to ‘slow the markets down’ by preparing, studying and focusing on the most relevant new information while blocking out all the useless noise. This last point, blocking out noise, is paramount to achieving success as a trader. In the 2011 world of high speed information flow and social media, the challenge of blocking out noise becomes increasingly difficult by the day. This is where StockTwits enters the equation. Below is a list of ways in which I try to ‘slow the market down’ and reduce my amount of noise intake:

  • Cultivate a list of people who use a similar trading style or cover markets/sectors/stocks that you are interested in on StockTwits and follow them using the ‘Home Stream’ to view only their tweets.
  • Understand that each and every equity analyst has an axe to grind, you can listen to an analyst on CNBC or read their reports but one must understand where they are coming from and how they are biased.
  • Mute financial television 99.9% of the time and don’t get fooled by the over-utilized enticing ‘Breaking News’ banners.
  • Cultivate a bookmark list (or subscribe via RSS feed etc.) of 20 truly excellent blogs/financial writers to read each morning/afternoon. I find that there just isn’t enough time in the day to read more than this and still accomplish everything else. Sometimes I will read something else if someone whom I respect retweets an article etc.
  • Focus on markets/sectors/stocks that you are interested in and in which you can build a core competency/expertise. It is impossible to be an expert in everything and if you try to you will succumb to information overload.

So here we are today-January 10th, 2011 and earnings season kicks off after the close with the Alcoa report. Earnings season offers equity traders the opportunity to shine by demonstrating their superior knowledge of stocks of which they are experts. Oftentimes, stocks will experience elevated volatility during the after-hours/pre-market trading following an earnings release. This gives expert equity traders a wealth of opportunity to demonstrate their superior understanding of a company’s results and its true value. Moreover, having a ‘Home Stream’ on StockTwits of 25-50 intelligent/experienced traders can be priceless during earnings season. Perhaps your ‘Home Stream’ will provide you with new information or a different view on breaking news. Also, if you follow people who tweet trade entries/exits you can obtain a micro sample of market opinion which I also find to be quite useful.

Remember to focus on quality of information, not quantity of information. And one final piece of advice on using StockTwits, don’t follow people who tweet a lot of noise or who are clearly biased in cheerleading their positions. And don’t commit either of these sins yourself!

The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.

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