Our previousexamined the Random Walk theory, and the theory held up well. There was no predictability in the direction of daily moves over the long-term. Are market movements also random after notable daily increases or decreases in the market?
If the market increased or decreased 1% in a single trading day, we calculated the returns of the next day in the market. We did this to test whether or not there was a higher likelihood of an increase or decrease after these "notable" moves.
In both cases, the market tended to still be random, with the upside and downside moves sharing a near 50/50 split. In fact, there was a slight benefit to being a contrarian after increases and decreases. When the market increased 1% in a day, there was a 2% less likelihood of another daily increase. When the market decreased 1% in a day, there was also a 2% less likelihood of another daily decrease.
The results also showed that after 1% daily increases and decreases, there was a higher likelihood for larger market moves (greater than 2% and 3% in either direction) to occur.
Watch this segment of Market Measures with Tom Sosnoff and Tony Battista for their takeaways and the detailed study results testing the Random Walk theory after 1% daily market moves.