Mean reversion: How to profit between optimism and pessimism in the stock market
Market history gives us patterns and relationships that can be explained by market psychology and microeconomics. Knowing the patterns and what drives them helps us to uncover or validate (an increase in probability) of value investing opportunities. One such pattern is mean reversion.
Mean reversion in stock prices
Momentum is real. Stocks that go up tend to go up further, for no other reason than their share prices rising. Examples in the last few years include the stocks ensnared in the Blumont Saga in Singapore and Hanergy in Hong Kong. What investors fail to realize is that momentum does not last forever – especially if run-ups in share prices are not supported by solid fundamentals.
When sentiment is extremely bullish, it is hard to fight against the crowd. Luck may be confused with skill, and hubris tends to rear its ugly head. On the reverse end, when stock prices are depressed, ......