Market Commentary, Correlation, and Causation
Don’t be fooled, this isn’t market commentary. This is commentary about market commentary. Many times when we come across market commentary, we see horrible examples of confusing correlation and causation, the logical fallacy of post hoc ergo propter hoc wherein event B is said to be caused by event A simply because event B followed A. This fallacy can be found in the vast majority of market commentary, and is especially obvious on days where the market didn’t move appreciably, yet there is someone claiming to know why the move occurred. Today is a good example. The Dow Jones Industrial Average gained 75 points today, or 0.6%, which is well within normal market fluctuations. In other words, nothing happened in the market today. However, that did not stop anyone from trying to find an explanation for this nothingness. Over on The Street they attributed the 0.6% gain to a narrowing trade deficit in the last month, amongst other factors.
As a concrete example, consider your commute time to work and what a 0.6% variation in that would be. According to a 2007 Gallup Poll, the average American commutes 46 minutes to work, round trip, so assume 23 minutes each way. Well 23 minutes is 1,380 seconds and 0.6% of 1,380 seconds is 8.28 seconds. In other words, the movement of the stock market today is equivalent in magnitude to you arriving 8.28 seconds early for work. Would that even matter? Would you try to explain your punctuality? If so, do you think anyone would believe that you correctly accounted for all the factors that led to your arrival 8.28 seconds earlier than normal?
This is what happens every time the market doesn’t move much and people write commentary about why it did what it did. Remember that just because there was a slight change in the trade deficit, and today the market closed up 0.6%, that does not mean those two facts are related. Correlation does not equal causation, and the post hoc ergo propter hoc fallacy is rampant.