Wednesday, 2 November 2011

The Markets Are Falling!!!

"The sky is falling, the sky is falling!!!" was the absurd warning we heard in the story of Chicken Little.

In the more recent animated adaptation, Chicken Little happened to be right. Only this time it was invading aliens and he happened to save the world. While age old maxim's continue to be true, they reminds us to look at old problems in new light.

If you have been following the markets over the last few years, you know what I am talking about. The advice used to be "wait 10 years, the market always wins" - and they were right. Until now.

So what has changed?
Why does the institution that is our financial marketplace no longer seem to function the way we thought? Well, I have a few theories but that is all they are, just theories. If anyone says they have the financial markets all figured out, they are lying. Or delirious. Or both. So here we go:

Theory 1: Too many emotional traders. 
In the "olden days", you used to pick up your briefcase sized cellular phone (hello 1989) and yell "SELL BABY, SELL!!!". Generally, if it was a bad move, your broker might try to talk some sense into you before making the trade.

These modern times are quite a bit different. The advent of trading technology has taken this ability to the streets. Quite literally. I can walk down the street, turn on my cell phone and make a trade between stopping for coffee (or hot chocolate) and catching the next bus. From what I understand, the majority of trades (trade volume, not capital volume) will soon be made by the technically "uneducated" investor. That means that trading is not their day job, nor do they have any formal experience or education. This results in far more emotional trades than trades that use sense and reason. The end result - good companies and bad companies fluctuate in price for reasons completely unrelated to their actual performance.

Theory 2: Too many electronic traders. 
Just like the big trading brokerages, I can set my trading account to sell when a price drops or to buy when a price jumps (actually its just automated emotion - see theory 1). A prime example of this was in the spring of 2010 when the NASDAQ and NYSE among others had to cancel trades after an electronic landslide occurred. I imagine that it went sort of like this:

Theory 3: Baby Boomers Want out. 
Whether running from volatility to calmer waters or just pulling their capital to buy that built-for-a-rockstar sized Class A Motorhome, baby boomers hold a large (and when I say large, I mean LARGE) portion of the world's wealth. If they exited from the markets in ANY organized fashion, it could have astronomical effects on market prices. Right now, the workforce still needs them, but mark my words - one day they will want out. Working at 65 keeps the mind sharp but in 5 or 10 years, they are going to pull themselves from the workforce and start drawing on their wealth. My guess is that it will look like a 13 year old kid cannon-balling into the middle of a seniors aqua-sizing class.

In Conclusion
So what do we make of this? Some say life is hunky dory and its time to buy while others say the world is coming to its end. Whether that cannon-balling kid is the Sub-Prime Mortgage Debacle or the Greek Credit Crisis, I am not convinced that fixing them will stop the waves of volatility. Ultimately, I feel our current model is broken. Our world has changed significantly and the markets haven't. Instead, they have become more nebulous and complicated - adding options, derivatives, and other "attachments" to an antiquated model. There comes a time when you stop waiting for the stagecoach and catch a bus. Or a plane. Or a spaceship.  In the end, you need to ask yourself one question: Can the markets can efficiently serve your needs when they have become detached from the actual performance of the underlying company.

Simplicity is making a comeback. Baby Boomers have demanded something different and a new market has emerged. Fully secured investment, performance based fees, thin investment management and tangible companies that give you face time with the CEO (if you really want it). In the immortal words of Bob Dylan, times they are a changin'.

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