Market Patterns Look Normal

| About: SPDR Dow (DIA)

As strange as it seems, in all this wild volatility, the weekly patterns are still playing out normally.

For instance, options expirations take place on the third Friday of each month. The week before the expirations week tends to be negative. The week in which the expirations will expire on Friday tends to be positive. And the week after the expirations tends to be negative.

October has been a wild month in which the market has closed up or down by triple-digits 26 of the last 29 days, the one-day moves for the Dow being as much as 936 points, and averaging 350 points. That is far above normal volatility.

Yet through it all, the weekly patterns have prevailed.

This month’s options expirations took place on Friday, October 17. The week before (the week ended October 10) the Dow closed down 18.2%. The week of the expirations, the week ended October 17, saw the Dow close up 4.7%. I don’t know where the market will close today, but as this is being written mid-day Friday, October 24, the week after the expirations, the Dow is down 5% for the week so far.

It’s almost bizarre that the patterns could overwhelm even these economic and market conditions.

I can’t prove what causes the pattern around the monthly expirations, but for many years I have been expressing my suspicions. Those suspicions are that the huge program-trading firms use the power of their huge automated sell-programs to drive the stock market down the week before the options expirations week. They can then buy the highly leveraged options and futures that will expire the following week for pennies on the dollar. They then use the power of their huge buy-programs to drive the market back up the week of the expirations. They can then sell those about-to-expire options they bought for pennies on the dollar the previous week for huge profits. And the next week they unload the stocks they bought to drive the market up the previous week, adding to any negative activity in the week after the expirations.

Who are the program-trading firms? They are the largest investment banks and brokerage firms short-term trading for their own accounts. The top five for program-trading activity last week were Credit Suisse (NYSE:CS), Goldman Sachs (NYSE:GS), Merrill Lynch (MER), Morgan Stanley (NYSE:MS), RBC Capital (div. of Royal Bank of Canada (NYSE:RY)). The program-trading activity of the top-ten for the week accounted for 37% of the total trading volume on the NYSE. Their potential influence is obvious.

I know, I know. It couldn’t be, since market manipulation is illegal (except for the Fed when it rushes in with a big rate-cut, or a surprise weekend announcement, when it fears the market will tumble the next day).

Nor could it be huge buy-programs in the final hour of the day that often manipulate an ugly market up to a better close. No, that’s just millions of investors suddenly deciding at the same moment that they need to be in the market.

But still, given the market volatility this month it might be interesting to revisit how manipulators in the early 1900s used volatility to keep investors out of the market near important lows.

In the early 1900s there were no market regulations, so market manipulators did not need to hide their activities, and afterward could even openly boast about what they had done.

In his 1930 memoirs, old-time brokerage firm owner Richard D. Wyckoff described how at the market top in 1906 John D. Rockefeller and some of his friends manipulated the market, "to keep public investors buying in a volume that would allow these large operators to successfully unload into the strength to take their profits from the bull market.” Their methods, which I recounted in my 1999 book Riding the Bear – How to Prosper in the Coming Bear Market, were so simple, mostly relying on the media to pass along misleading information to the public.

Later in his memoirs he described what happened at the subsequent bear market low, saying,

Rockefeller ordered a private telegraph wire run into his house, and began socking away bundles of securities in one of the downtown vaults. The Morgans were also now on the buy side, and quietly telling their friends to get aboard again. We tried to interest some of our public clients. They would have none of it. The market was now being manipulated to keep the public fearful and out of it, until the bankers’ portfolios could be loaded up again at the low prices. So when the market moved up too much off the bottom, as the bankers bought, and some of the public ventured in, the advance was promptly knocked on the head by manipulative selling. The result was a narrow whipsawing market in which traders, long or short, could not make any money, but the accumulators could continue to accumulate. It’s a well known principle of manipulation that more people can be tired out and made disgusted with their holdings, thus induced to sell at the low prices, by the whipsawing at the bottom that grinds them down until they give up.

But of course, market manipulation is illegal in the modern market, so it is just an interesting observation.

Meanwhile, the market’s next potential weekly pattern is what I call the ‘monthly strength period’, which tends to begin around the last trading day of the month, and runs through the fourth trading day of the next month.

Could the sell-off this week be setting up for that possibility?