Momentum.
What it is, what causes it and how to interpret it mathematically
๐งต
1/n
What it is, what causes it and how to interpret it mathematically
๐งต
1/n
Basically momentum is if price keeps going in one direction. Mathematically this means that returns are positively autocorrelated. Now let's say you have some asset with positive autocorrelation. Should you buy after a positive return? no
2/n
2/n
Momentum isn't distributed evently across time.
I like to distinguish a couple of different types of momentum. Themost reliable one but also the one that's hardest to trade is the slow diffusion of information. Let's go over an example.
3/n
I like to distinguish a couple of different types of momentum. Themost reliable one but also the one that's hardest to trade is the slow diffusion of information. Let's go over an example.
3/n
A company just released their Earnings Report and it's not like most people expected. This is new information that is not yet priced into the market. It also won't be priced into the market instantly, there are fast traders and slow traders.
4/n
4/n
Since it's a predictable event and the most sophisticated players will be the fastest the momentum on this drops exponentially so it's hard to trade unless you are really fast.
The next type of momentum is random.
5/n
The next type of momentum is random.
5/n
Prices often move randomly because random people and buying and selling, even if there is no new information markets move. Random moves happen on all assets but big and random ones usually happen on illiquid assets like shitcoins.
6/n
6/n
If a random coin suddenly shoots up 10% for literally no reason there is a good chance that people will see this large increase and buy into the coin, this causes it to go up even more making even more people enter, this one is the opposite and goes up exponentially.
7/n
7/n
At some point people will start selling causing price to drop and the exact same behavior will happen downwards, we see a small drop which quickly increases in magnitude.
8/n
8/n
While this one is easier to trade and you get even more profit for being early it's also less reliable since there is often no good reason for the price movements.
Let's look at a special example, crypto pump and dumps.
9/n
Let's look at a special example, crypto pump and dumps.
9/n
While they are usually anticipated because you got some groups which run them the people involved in the trade are unsophisticated and it's still a random coin which is gonna attract people that don't even know about the pump and dump.
10/n
10/n
So we still see behavior like in the second example.
Pump and dump starts, slow people buy into the coin making more and more people notice the coin so they start buying etc. Then it all start going down slowly after people stop buying and start selling.
11/n
Pump and dump starts, slow people buy into the coin making more and more people notice the coin so they start buying etc. Then it all start going down slowly after people stop buying and start selling.
11/n
So like usually, if you aren't a large institution don't trade with the large institutions. Go where unsophisticated traders are and be the smartest and the fastest. (This sounds like I'm telling you to join a pump and dump scheme, please don't do that)
12/n
12/n
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