Tag Archives: Stock market

Is the next financial crisis looming

By Ross Barry -The strong performance of many share markets around the world has led many to speculate that another major correction may not be too far away. History has shown us, over the past 300 years or so, that major corrections have occurred every nine to 10 years, on average, albeit some have come closer on the heels of the one before, while others have been more than 20 years apart.

History has also shown us that financial manias and crashes are almost always an outworking of three things – an accumulation of large volumes of idle capital (savings), financial innovation and leverage. Most have also occurred following a strong, speculative surge in markets and a few years into a new phase of higher interest rates.

The less opportunities there are to deploy savings to create new wealth, the more they accumulate in safer stores of wealth. And the more wealth is stored rather than used creatively, the more the return on idle savings declines. The fact that yields on cash and bonds around the world are currently at, or below, zero per cent in real terms, tells us that there is a lot of storing going on right now.

We have seen this throughout history in the shadowy practice of “melting debt” in the 1860s, the proliferation of margin lending by Wall Street firms in the 1920s, the development of futures, options and “repo” markets in the late-1980s, and again with the mass production of highly leveraged CDOs built from sub-prime mortgages in the mid-2000s.

Too often, unfortunately, when productive risk-taking in an economy dries up, clever agents turn to new and resourceful ways to repackage riskier assets and promote them as something seemingly safer.

What makes investors succumb to the lure of such things is a whole study unto itself. more>

Updates from Chicago Booth

Lost money? Reinvest!
By Erik Kobayashi-Solomon – Investors sometimes play a psychological trick on themselves when they lose money, research suggests—and that mental accounting trick may help improve their investment performance.

According to Cary D. Frydman and David H. Solomon at the University of Southern California and Chicago Booth’s Samuel Hartzmark, investors who sell a losing investment often avoid the psychological pain by immediately reinvesting in another stock. By doing so, instead of thinking of the action as realizing a loss, they frame it as rolling capital into a related investment. The reference point used to compute gains and losses is linked to the amount paid for the original asset.

That mental accounting trick may help them avoid an often-made mistake. A key insight of behavioral finance is that investors, to avoid the pain of realizing a loss, fall prey to the disposition effect: they tend to be more likely to sell winners than losers. But the act of reinvesting makes investors more willing to sell a losing stock and realize a loss sooner. more>

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The Hidden Meaning of Dow 20000

By Paula Dwyer – Since Donald Trump won the U.S. presidential election, the Dow Jones Industrial Average has risen almost 9 percent, flirting with closing for the first time ever at the 20,000 mark. The year-end rally is the market’s way of saying it approves of the president-elect’s ideas.

As well it should. Trump’s tax-cutting, deregulating and deficit-spending policies are tailor-made to boost corporate profits.

Now would be a good moment to wave the yellow flag. This may not be such great news for the rest of the economy.

What’s happening is exactly what some economists had predicted over the summer: In Trump’s first two years as president, business-friendly policies would lower corporate costs, and stock investors would get a bigger share of the economic pie. more> https://goo.gl/YjeH34

Michael Dell Bought His Company Too Cheaply

By Matt Levine – Appraisal is a weird bit of corporate law, because it undermines the usual nice clean process of deciding how much a stock is worth by just seeing what someone will pay for it.

In 2012, with the “market not getting” Dell and valuing it at just $9.35 a share, Michael Dell rounded up some financing sources and offered to pay about $12 or so for it. Eventually. Michael Dell and his private-equity backers at Silver Lake ended up paying about $13.75 a share ($13.96 counting some dividends) in a $25 billion deal that they signed in February 2013 and closed in October of that year.

Then some shareholders sued in an appraisal lawsuit, arguing that the $13.75 was too low and that a Delaware court should award them more money.

On Tuesday (May 31) Delaware Vice Chancellor Travis Laster ruled on the remaining appraisal claims and found, in a 114-page opinion, that Dell was really worth $17.62 a share, so everyone who successfully sued — and managed to jump through the correct hoops — is entitled to an extra $3.87 a share, with interest.

To get there, first of all, Vice Chancellor Laster had to disregard the market price for the stock, which was $9.35 when the deal was first proposed, $13.42 when it was officially signed, and never closed above $14.51 afterward.

The market price didn’t reflect fair value, not because the market didn’t have the relevant information, but because it weighted it incorrectly. Analysts had a myopic “focus on short-term, quarter-by-quarter results,” and couldn’t understand the long-term value of the company’s plan. more> http://goo.gl/vISqXO

Tracing Oil’s Hypnosis of Stocks From Wealth Funds to Junk

By Dani Burger, Oliver Renick – Understanding why oil is casting such a spell is more than an academic inquiry.

The reason matters, given how big the moves have been. Almost $1.6 trillion has been erased from U.S. stocks in 2016. If oil is contributing, it’d be nice to know why.

Here are four theories on what’s underpinning the connection.

They range from a straight economic signal to speculation oil’s plunge threatens to lay low everything up to and including the financial system.

Theory: The world’s biggest investors are being forced to sell everything that isn’t nailed down to offset the hit they are taking on their crude holdings. After getting pummeled in commodity trading, investors may be stepping into stocks and unloading. more> http://goo.gl/C05DGw

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Market tailspin hastens the economic shock it fears

By Mike Dolan – History suggests governments and central banks would do well to sit up and take notice, but with policy coordination at its lowest ebb in decades, a coherent response is unlikely.

With almost $6 trillion wiped off the value of global stock markets since the start of the year and another 25 percent off already low oil prices, there is a real risk investor anxiety itself will be the catalyst for a world recession.

“When two players sit down at the board, they are unlikely to have a satisfactory game if one of them thinks they are playing checkers and the other thinks they are playing chess,” Jeffrey Frenkel [2] wrote.

By any measure, we are in historic territory. more> http://goo.gl/fnenki

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Be Scared of China’s Debt, Not Its Stocks

By Noah Smith – If a stock bubble and crash were China’s only problems, the danger might not be so great. Research shows that bubbles are less damaging to the real economy when they mostly involve equity rather than debt.

Debt crashes inflict harm on the financial system, creating major recessions that take years to repair.

Equity crashes, meanwhile, merely reduce paper wealth. A good example of an equity bubble that wasn’t very harmful was the late 1990s U.S. dot-com boom. When it ended, stock prices were devastated, but the crash led to only the mildest of recessions.

China probably also has a debt problem. more> http://goo.gl/tCn4xo

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Why markets ignore good news from U.S. to focus on bad news from Europe

By Anatole Kaletsky – After all, if the United States was unable to pull convincingly out of recession after $3.5 trillion of quantitative easing, five years of near-zero interest rates and budget deficits worth 10 percent of gross domestic product, what hope could there be for other countries implementing half-hearted versions of the same program? more> http://tinyurl.com/ooxfuq3

Here’s what it will take to trigger the next stock market correction

By Anatole Kaletsky – Sometime in the not-too-distant future, investors are certain to suffer some big and painful losses — even if I am right in expecting equity prices to continue rising in the long term.

What kind of event is most likely to end this bull run, or at least interrupt it with a setback of 20 percent or more?

If stock market valuations are not yet high enough to cause a big correction — and if monetary and economic conditions are likely to remain benign for the next year or two — then the unavoidable conclusion is that equity prices will just keep rising until they really do become over-extended.

At that point, negative news events of the kind that investors can shrug off today as almost irrelevant will prove sufficient to trigger a serious correction. more> http://tinyurl.com/lgsbgyd

Does trend-chasing explain financial markets?

By Noah Smith – That’s why this 2012 paper (pdf) by Andrei Shleifer and Robin Greenwood is so interesting. They take an extremely simple approach toward measuring people expectations: Just ask people what they think is going to happen! Actually, what they do is to take data from six different surveys of the stock market expectations of individual investors.

When recent returns have been high, people expect the recent “trend” to continue, and buy accordingly. Trend-chasing – and causes of trend-chasing, such as herd behavior – has received a fair amount of attention in the behavioral literature, though perhaps not as much as it should. more> http://tinyurl.com/jvnskpq