How the news affects the stock market is one of the biggest enigmas in trading. Intuitively, bad news should make stock prices go down and good news makes them go up. Unfortunately, it is rarely that simple. This often contradictory puzzle of news and the stock market is the number one reason people claim “the market is rigged”.
While news is important to the stock market, the thing most people forget is news by itself doesn’t move prices, only traders buying and selling can do that. If we take this concept to the next level, it isn’t news driving market moves, but traders’ reaction to the news that matters.
Why this distinction is so important is because all traders come to the market with expectations. Expectations and beliefs about what will happen next. That means it isn’t whether the news is good or bad, but if the news is better or worse than the crowd expects. This is where the confusing paradox of “good news is bad” and “bad news is good” comes from.
Traders often correctly anticipate a piece of news and they trade the market ahead of it. And when their intuition proves right, rather than make money, the trader gets hit with a stinging loss when the market moves in the opposite direction of what it “should do”. When traders get the news right but lose money is when they start claiming “the market is rigged”. Sound familiar?
The mistake is thinking the market should react to the news. What we really should be focused on is the market’s reaction to the news, not the news itself. This is concept is extremely important in the current environment. Trade wars, Fed interest rates, and hints of a looming recession have may traders running scared. But paradoxically, the stock market remains stubbornly stuck near all-time highs.
If a person was only looking at the headlines, it would be easy to assume the market is well on its way into a bear market. But if we look at the market’s reaction to these headlines, we actually see the opposite. A market that is frustratingly indifferent.
If our goal is to make money, then we should be trading the market, not the news. No matter what we think of these headlines, the only thing that matters is what the market thinks. Keep that in mind when you place your next trade.
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Tags: CMU S&P 500 Nasdaq $SPY $QQQ $study
Jani Ziedins (pronounced Ya-nee) is a full-time investor and financial analyst that has successfully traded stocks and options for nearly three decades. He earned a B.S. in Mechanical Engineering from the Colorado School of Mines and an MBA and M.S. Marketing from the University of Colorado Denver. His prior professional experience includes engineering at Fortune 500 companies, small business consulting, and managing investment real estate. He is now fortunate enough to trade full-time from home, affording him the luxury of spending extra time with his wife and two children.