T Nation

Is the Stock Market Broken?


#1

I'm starting to think so. This economic crash has seemingly destroyed any previously held rule of investing and made the stock market completely random.

Companies report huge, legitimate profits (ie: not through TARP or layoffs)...the stock price plummets

Other companies, often swimming in debt, report devastating losses...and the price shoots up.

Companies announce that they're hugely diluting the share pool...and then go on to gain 20% in a single day!

Fundamental analysis has apparently gone out the window.

Might purchasing scratch-and-win tickets be a more sound investment these days?


#2

Actually, the more irrational that the decisions of others are, the better for you, if your intent is to hold a stock long-term and are owning it for the dividends it yields.

If the market were completely rational and highly informed, then how would you be more accurate than the market in deciding what stocks are undervalued?

But if lots of other investors are being idiots, then it's more likely you can outperform them and pick stocks whose price is a true bargain for the dividends likely to be generated in the future.


#3

It has always been random in the sense that none really know how the many individuals who make transactions in the market will ultimately value those companies who are traded.

The reason why it seems even more unpredictable now is two-fold:

1) Investors don't know how to value assets because there is a lot of debt that is not accounted for. This debt makes holding stocks -- especially financials -- very volatile.

2) Much of the increases in stock price will be viewed only as an increase in the supply of money -- i.e., the price of stocks gets bid up because there is a lot of new money floating around in the financial sector.

No. Fundamental analysis is still fundamental -- it is probably you just aren't aware of how to do it.

You need to be able to analyze prices and understand what affects them. The biggest factor is government intervention.


#4

Sorry, I meant that the investment choices of many investors these days seem not to be based on fundamental analysis at all.


#5

You're absolutely right. For long-term blue chips, this economic environment is an absolute bargain sale. As long as dividends don't get cut severely and you have a 10+ year time window to play with, you could (likely) make a killing.


#6

I use fundamental analysis and my stocks are up 49%.


#7

Yes and lottery may not have the reserves to pay winners....

some of this is sarcasm.


#8

Possibly. To the extent that there was ever any real analysis going on in the first place the foundation must always be a solid pricing structure, free from too much intervention.


#9

Bubbles will exist as long as humans do. Most of the time, people do not act rationally, but rather make choices based on emotion. As a result, bubbles are created and eventually they must burst. This time it was the housing market, last time it was the internet sector. Next time, who the fuck knows. Rinse - repeat....

We may not see a buying opportunity like this for decades. The stock market is certainly not broken. Instead, you have a handful of factors contributing to depress prices across the board. Once the market stabilizes (it will...it always has) the growth could be very explosive, very quickly.

Shit...we've already rallied significantly from the bottom (30% or so I believe).

Bango


#10

But if this were true then bubbles would have always existed. Any serious study of history would reveil this to be untrue. In fact, bubbles are a modern phenomenon only occuring in the last 100 years or so. Bubbles can only occur when the price of credit (interest rates) become cheaper than the market would otherwise set them. This can only happen when the supply of money can be inflated or deflated. If the money supply is real high interest rates have to be extremely low or money will just sit around not being used. When they are real low there is a tendency for malinvestment because previously unattractive investment become higher priced in the market due to prices being bidded up -- e.g, the stock marke in 1999 and the current housing bubble.

All choices are rational choices in that they require reason. The fact that one person may be "emotional" while making the choice does not change that fact. What you are really saying is that you would behave differently under the same circumstances.

Basically, it all comes down to the fact that ALL individuals value things differently and will behave in different ways to bring the reality of their values about. It is very chaotic but when the market is stable (not being interfered with) it has a way of organizing the actions of individuals to coincide with the greater wishes of society. In a healthy environment it becomes increasingly difficult to profit off of taking advantage of people. The market will punish immorality while the government tends to (unintentionally) protect it via dimwitted regulation.


#11

Actually, any serious study of history would reveal the tulip bubble of the 1600s. Many refer to this as the first recorded speculative bubble where the price of tulip contracts was significantly inflated. Now due to the lack of data from that time period, it is difficult to gauge the specifics of that phenomenon...but nevertheless many economists agree that this was the first bubble.

Prior to this time, my history is shaky at best, but I would surmise that this was the beginning of traded securities...or financial markets as we know them today. Perhaps there is evidence before this, but 400 years of bubbles is enough for me.

Interest rates due play a critical role in asset pricing. Your analysis that an increased MS causes lower interest rates is absolutely right. This may cause a tendency for buyers to bid prices up as they have excess funds from their ability to borrow at much lower rates and thus invest more. At the same time, the economy is very cyclical and as long as the Federal Reserve runs a dual mandate between price stability and employment there will always be an ebb and flow. Thus, periods of expansion/contraction. A direct result of this will be periods where interest rates are high and conversely periods where they are very low (right now). Therefore, the opportunity for bubbles to form will always be there at one time or another.

I agree that market participants have heterogeneous expectations, which would cause different perceptions of the same circumstance. However, behavioral finance cannot be discounted even though most asset pricing models do not consider it. People make knee-jerk reactions, which may or may not be in their best interest. Perhaps they do always have a 'reason' for their choices...but if that reason is simply to "keep up with the jones'" buy investing in the next hot stock then I would never classify that as rational behavior. It may be rational in their own minds, but that's because humans can, and will, justify their behavior through rationalization. You get enough people making poor decisions like this one by purchasing stock in internet companies (without researching their financials), or getting into homes via subprime mortgages when they do not have the credit/income to be a homeowner, simply to boost their status then prices become inflated. Enough buyers in the market causes the underlying price to move beyond its intrinsic value and bam...before you know it you're fucking knee-deep in the next bubble.

And then all of a sudden...it bursts.

Bango


#12

Pure laissez-faire bullshit. For this to be true then you are assuming that free markets lead to perfect competition, which simply isn't the case due to market externalities and a host of other possible market failures.


#13

What is perfect competition? What ideas do you have about economics that makes you so certain something like that is even knowable?

Most evidence points to government as the culprit when it comes to interference in competition...if that is what you mean, though I am not so sure what is "external" about it.


#14

I kind of look at it as a chicken and egg situation. There is only one sure fire way to end the cycle...but that is best left at the PWI threads.

I still think 400 years is modern is terms of monetary exchange. Though, I also know that we can expect that government fucked with the money back then, too -- shit, their faces were depicted on it...


#15

Why oh why do you keep posting about things of which you know nothing or nowhere near enough, making absolute assertions which are completely wrong.

You never heard of the South Sea Bubble? 1711.


#16

That's another great example...I knew I remembered one that had something to do with the sea...lol


#17

I am fascinated by this. Please, tell us more! :slight_smile:


#18

Below are the stocks I bought and the price I bought them at

COH $13.00
EBAY $12.33
MEOH $9.00
THO $11.85

The current prices are

COH $23.41
EBAY $17.00
MEOH $12.22
THO $18.15


#19

It has become fairly obvious to me that you don't know anything about economics. Speaking of bubbles that have occurred in the past, how about the Mississippi bubble? 1715.


#20

These are all good questions, so I'll try to shed some light on it (I don't claim to be an expert on it by any means!) The prices for these stocks are already so low because of their current fiscal conditions, that is, a lot of the bad news is already cooked into the stocks. Analyst study the economic conditions of these companies and set earnings estimates for the stocks, and if a company were to meet (or beat) the analyst projected earnings then the price goes up. Sometimes analyst predict that companies are going to lose money and as long as they don't lose more than the predictions, the price of the stock usually goes up.

Fundamental analysis still works for long term investments, it's just that the market right now is very volatile (it's a traders market). Once economic conditions start to get better (spending goes up, credit loosens, unemployment slows) you will see the blue chip stocks gradually get stronger and stronger over time.