What goes on when the markets are closed
If you’ve spent more than a day or two following the markets, you will have noticed that stock exchanges open and close at a certain time with wild price changes sometimes happening around those moments. Understanding why these price movements happen is an important part to becoming a good investor
The fact of the matter is, the world doesn’t stop turning while the markets are closed. Any number of events can happen after market hours that will cause investors to pile into or out of a stock when the markets reopen. Sometimes, crucial announcements are even made outside of market hours on purpose to give investors time to think and avoid overreactions. As you will see, some events can have a bigger impact than others.
Let’s focus on four of the most important ones. So pay attention!
1. Key Economic Indicators (KEI’s)
An economic indicator (or leading indicator) is a piece of economic data, usually of macroeconomic scale, that is used by many investors to interpret current or future investment possibilities or to judge the overall health of an economy. Typically, such data is published when markets are closed. As the name suggest, there are some that are considered ‘key’:
Every month the US Labour Department releases data from the public and private sector to monitor the levels of job creation and losses in the economy. Higher new job numbers generally shows that the economy is growing and will likely be followed by increased buying across the market. Lower than expected new job numbers indicates that the economy is contracting and is often followed by more selling activity.
The unemployment rate is a tricky one to pick, but in general, countries strive to be as close to ‘full employment’ as possible. However, too much employment causes wage inflation and leads to interest rate hikes. Conversely, too much unemployment causes a drop in consumption and can lead to a recession. So, a happy middle ground is often best when it comes to unemployment statistics.
The manufacturing report gives investors and indication of whether firms are producing more or less every month. The manufacturing industry is often a useful indicator of the current market cycle. When output is consistently lower than expected it signals that the economy is contracting. The opposite is true if output is higher than expected.
When these numbers are released after-hours, the markets will often react with sizeable spikes in activity when they reopen the next day. Because manufacturing goods are often used as inputs in other sectors, the manufacturing report has far-reaching effects that can cause price changes across the entire market.
Strong retail sales numbers have the power to move markets considerably at the day’s open. Higher sales will push GDP upwards and strengthen the home currency which then causes certain currency-sensitive stocks to open higher or lower in the morning. These reports are especially important towards the end of the year as they set the tone for the busiest season for the retail sector from October-December.
Retail sales also provide the basis for the Consumer Price index (CPI) calculation which is used to track changes in the prices of everyday goods. This is also known as inflation. When the rate of inflation is too high, the the Fed will raise interest rates to to slow it down. When inflation is too low, the Fed will decrease interest rates to speed it up.
GDP / Budget / Elections / Fed Rates
Gross Domestic Production (GDP), elections, Fed rates or budget-related announcements often happen after hours to avoid massive shocks to the market. GDP announcements affect an entire nation, so after-hours reports can send an entire country’s market upwards/downwards at the open. Always be sure that you know the origins of the instruments in your investment portfolio as these indicators can have the largest effect on opening share prices.
2. Company Results
Investors pay very close attention to company results. These are published every quarter. These reports show how the company has been performing, which investors then use to predict the company’s future performance. Ahead of these reports, analysts will have expectations of what they think the company’s performance will be. If a company beats these estimates, its share price will often increase quickly. Whereas if it underperforms estimates, its share price will drop.
When these announcements are made while markets are closed, investors will pile in with lots of positions, causing the opening price to jump wildly to adjust to the higher buying/selling demand. The huge buying/selling pressure at the open can lead to the formation of what is known as a ‘gap’. How you make the most of these ‘gaps’ is dealt with in our next blog.
3. Major News Events
Unforeseen events like an earthquake, military uprising, or market collapse that happen after the markets are closed will have a dramatic effect on prices when they reopen. Investors will react to news in a split second to make profits in the aftermath of a major event which drives large fluctuations in prices. Trading news events, like the Brexit referendum for example, can be highly risky. If you are aware of a large after-hours event and are not completely confident of the outcome it is often advisable to lighten your portfolio prior to the announcement.
4. Futures market
The futures market is a useful tool to give you an idea about how the markets will open before they do. Futures are contracts representing an agreement to transact a certain amount of product, such as soybeans, at a certain price and specified date in the future. Spot markets involve contracts for an amount of product, such as Apple shares, that are settled immediately between buyers and sellers at a spot (current) price.
Where market-moving events are concerned, index futures will often give a great short-term indication of the opening direction of the spot markets. Rising futures prices ahead of the market open often indicates that the spot market will open higher too and vice versa if the futures market indicates a lower open.
So, the moral of the story is – always stay on top of the news, and have a diversified portfolio. Any number of the events mentioned above can happen overnight, so remember to understand the instruments you own in your portfolio and keep track on the news that may affect them. Having an Events Calendar or diary is a useful way to make sure you never miss out on noteworthy days, such earnings reports, Fed announcements or elections. Who knows, you may even become confident enough to use these market moves to your advantage.
Our next blog follows on from this one, speaking about gap formations and how to trade them – be sure to check it out!