Be wary of Wall Street's arbitrary conventions
Photo: Drew Angerer/Getty Images
It's the first trading day of the year, and in just the first hour of trading, the S&P 500 fell 0.82%. That also means that after an hour the S&P 500 was down 0.82% YTD. There are about 1,640 trading hours in the day, which means that on an annualized basis, the S&P is down, um ... 99.99986%.
Be smart: As we head into an arbitrary new year, then, it's worth being aware of some of the other arbitrary conventions that govern a lot of talk about markets.
- Measures of time. While YTD is probably the weirdest measure of time, most of the other time measures the market focuses on are also arbitrary. 12 months; 3 months; 1 calendar month; 1 week: None of these correspond to true investment horizons. And then there's the most common one of all, which is 1 day. Market participants, and the media, pay altogether too much attention to single-day moves in stocks and indices.
- Nominal share price. A company might have 1 billion shares outstanding at $10 each, or it might have 40 million shares outstanding at $250 each. There's no difference. (Unless it's in the Dow, where for no good reason nominal share price matters greatly.)
- Up is good. In the currency markets, there's debate about whether it's good for the dollar to be expensive. In the stock market, by contrast, there's near unanimity that higher is always better. If stocks go up, that's good; if they go down, that's bad. Essentially, everybody's assumed to be a seller rather than a buyer.
- Ignoring dividends. Over the past 50 years, the level of the S&P 500 has risen by 2,100%. So if you bought a painting in 1968 for $1,000 and it's now worth $45,000, that's up 4,400% and you've doubled the performance of the S&P, right? Wrong. The S&P has been throwing off dividends all that time. If you didn't need income from your painting, you didn't need income from the same money invested in stocks. And if you'd reinvested your dividends, you'd actually be up 9,300% since 1968.
- The 0% baseline. People really care about whether something has gone up or down, almost more than they care about how much it has moved. If you're up on the [insert arbitrary time period here] that's good; if you're down, that's bad. This is especially true on IPO day, again for no obvious reason.
Our thought bubble: Use your own timeframe and judge against benchmarks which are meaningful to your own circumstances. The media can't do that for you.
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