2011 Mid August Rollercoaster

On August 16th, 2011, posted in: Economic News by

The world’s stock markets acted like a true rollercoaster this week, in all senses of the word: they took us to thrilling highs and heart-stopping lows, but then dropped us off pretty much where we started.

It was a historic week that saw the first-ever four day string of 400-point-plus moves on the Dow Jones Industrial Average. It started Monday with a stunning fall of 635 points on the Dow. Yet here we are after the close of trading on Friday, and the Dow is down just 1.7 percent for the week. The same goes for the Standard & Poor’s 500 Index and the NASDAQ. Past performance does not guarantee future results. Indexes are not available for direct investment.

Monday’s drop nearly put us in bear market territory once you reckon the decline from the recent highs on July 21. Now we remain firmly in correction territory, but not in nearly as bad shape as it appeared early in the week.

We have counseled all along that most investors should probably do nothing until the dust settles. Terrance Odean, a famed finance professor from California-Berkeley who has published numerous studies on investor behavior, agrees. In an interview with Marketwatch.com, he said: “The last few days, it has been like watching coins get flipped, except each flip has been 5% up or down on the market. The average investor should think about how much damage they could have done to their portfolio in the last five days going in and out and getting your calls wrong. Sure, there’s a chance you would have gotten them right, but in a market like this one — with everything that is going on out there — do you really want to risk that?

We would also like to refer to a message we received from Tweedy, Browne Co:

Uncertainty, in our opinion, is one of the most difficult factors for professional as well as individual investors to deal with, and it is dominating the markets currently. Uncertain markets are characterized by increased volatility and correlation between asset classes, as well as increasingly shorter time frames for investment decisions. None of this, in our opinion, will improve the probabilities of earning a satisfactory return over a reasonable period of time. Rather, we think that in most instances, these will improve the odds of the opposite outcome. Emotional and behavioral biases tend to win out over objectivity.

Today’s 24-hour news cycle doesn’t contribute much to rational thinking. The adage in the media industry that “airplanes landing don’t make news” has an element of truth. One relatively new factor contributing to this volatility (and we admit that we do not have a lot of empirical data to back it up) is the impact of algorithm-driven trading which, in the U.S. equity markets, is upwards of 60% of volume. It is largely driven by arithmetic-historical correlations volatility, and holding periods measured in minutes if not seconds. Couple this with day trading and you end up with completely irrational price movements.”

Tweedy, Browne’s directors noted the wild swings in individual stock prices over the past few days and argued that each company’s real business value probably didn’t fluctuate at all. They conclude: “In our view, it is ultimately the economics that win out, and in our case, the economics of the underlying businesses we own. It certainly has been the case historically, and in our opinion, profits and cash flow will remain the fundamental long term drivers of equity valuations. The probabilities of objectively valuing the economics and sustainability of a business are far better than the alternative of predicting the movement of ‘markets’ over any given time period and we think the empirical evidence supports this view.



This information is compiled by Guy Baker from an assortment of news feeds including First Trust, Yahoo Finance, Bloomburg and others. This information is intended to be informational only. This newsletter contains forward-looking statements about various economic trends and strategies. You are cautioned that such forward-looking statements are subject to significant business, economic and competitive uncertainties and actual results could be materially different. There are no guarantees associated with any forecast and the opinions stated here are subject to change at any time and are the opinion of the individual strategist. Investing involves risk, including the potential for loss of principal. Data comes from the following sources: Census Bureau, Bureau of Labor Statistics, Bureau of Economic Analysis, the Federal Reserve Board, and Haver Analytics. Data is taken from sources generally believed to be reliable but no guarantee is given to its accuracy.




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