Understanding charts and technical analysis or the fundamentals behind companies and funds can greatly increase your chances of making successful trades and investments. While sometimes this information can make considerable improvements in the performance of your trades and portfolio, other times it seems like the market has a mind of its own. These kinds of moves might seem to defy analysis, but ultimately the market is always right.
Large entities such as firms, hedge funds, or simply high-wealth individuals, can exert significant influence over the markets. These professional traders are often referred to as “smart money” or “market makers”, as they can literally move or alter the direction of markets due to the potential size of their trades. While some understanding of both technicals or fundamentals will no doubt improve your chances, the actions of such big players can override and alter course for almost any asset being exchanged. How can the average investor or beginner trader hope to compete against such large players?
Ultimately, there isn’t much point in trying to do so, going against the grain (and the market) can be extremely costly. On the other hand, we can use this information just like technicals or fundamentals, to make a more educated guess where the price action of the asset is going. Massive trading volume and movements can be identified across stocks, options and ETFs. Though stocks can be transacted over-the-counter (OTC) and in darkpools to hide some of these movements, options contracts do reveal where money and sentiment is going in all three of these markets.
Much like momentum trading, if these large trades are followed its possible to capitalize on the movements by these market makers. When a large number of shares or calls are purchased for $XYZ by one of these larger traders, its possible to capitalize on the momentum by also going long with a similar trade. Conversely, if you were shorting $XYZ due to bad news or company performance and saw a large trader betting the other way, it could be more wise to alter your position at the very least for the short term.
Even with their sizeable influence, sometimes even market makers are unable to guide the price action as they would like. As seen in Q2 2020, Berkshire Hathaway’s sizeable positions and investments in airlines did not rescue market prices despite being among the top shareholders in more than one company.
While this kind of strategy is not fool-proof, it is worth contemplating the impact that major investors can have on your investments. Following the direction of smart money and market makers can be very simple and rewarding. Additionally, being aware of large amounts of capital betting in the other direction contrary to one of your open positions can help to avoid or cut losses. As they say, when in Rome, do as the Romans do.