Wednesday morning quarterbacking

What if Tuesday's drop in the stock market happened for no reason other than that it was overdue?

March 1, 2007 07:09
1 minute read.

MarketWatch: In-depth global business coverage What if Tuesday's drop in the stock market happened for no reason other than that it was overdue? Our minds recoil from such a possibility, since it strips Tuesday's 416-point drop in the Dow Jones Industrial Average of any particular meaning. In fact, it is our psychological need for ascribing meaning to momentous events that accounts for how much ink has been spilled trying to explain what happened. But, according to a mathematical theory developed by an MIT economist and several physicists at Boston University, drops of Tuesday's magnitude are entirely regular and periodic. Their study, published several years ago in the prestigious scientific journal Nature, reports that large daily fluctuations in the stock market occur, on average, at very predictable frequencies. Instead of seeing these fluctuations as abnormal, the academics' theory suggests we see them as inherent features of the stock market's volatility. The study's authors derive a complex model that predicts how often declines of Tuesday's magnitude - 3.3% in the Dow industrials - will occur. Over many years, according to that theory, they should occur an average of every five to six months. From the perspective of this study, therefore, what's surprising is not that Tuesday's drop happened but that it's been a long time since we last experienced a decline this large. The previous time that the Dow lost in percentage terms as much as it did on Tuesday was March 24, 2003, nearly four years ago. If the last four years had adhered to the historical pattern, we should have experienced nine days with drops as big as Tuesday's. MarketWatch: In-depth global business coverage

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