Don't say that markets are always like this. That's exactly the point - they're not.
By PINCHAS LANDAUglobal agenda 88(photo credit: )
The primary feature of the financial markets - especially, but by no means only, equity markets - in recent weeks has not been sharp falls in prices.
Of course these have occurred, attracting a lot of headlines in the process. But when you add it all up, so far - and the emphasis is on so far - prices have not fallen by a significant percentage, except in the riskier parts of the bond and credit derivative markets. Rather, what we are seeing is extraordinary volatility: prices make sharp moves, in both directions, with increasing frequency.
Wednesday in New York was an excellent example of this phenomenon. At the end of the day, the S&P 500 Index was up 1.4%. Along the way, however, there were huge swings; in the last two hours of trading, the index managed to drop about 1.5% from the day's high and then jump back up 1%, to finish up 1.4% on the day. This kind of frenetic, switch-back railway trading reflects extremely nervous conditions. Hardly surprising then, that a sharp rise or fall on one day gives no indication as to what the next might bring - it can be more of the same, the exact opposite or, increasingly rarely, a directionless meander.
Don't say that markets are always like this. That's exactly the point - they're not.
Until late February this year, the main global equity markets underwent a period of several years in which average volatility was extremely low. This went on so long that several academic studies managed to appear in time to highlight what an extraordinary phenomenon this was, from a historical point of view. Some of them went further and predicted that when the period of low volatility ended, as it must at some point, it would likely give way to a period of unusually high volatility - and that's what we seem to have entered now. Fortunately, there is no way that exceptionally high volatility can go on for years, because one of its effects is to drive investors out of the markets altogether. But the historical record is that high volatility is much more often associated with a falling market than a rising one.
In the wider scheme of things, however, the source of the problems roiling the financial markets is not to be found in the markets themselves, least of all in the equity market. The root of the problem, in economic terms at least, is the impact of years of cheap money - "very high levels of liquidity," in the professional jargon - on everyone from households to businessmen to financiers. This has been written about extensively and intensively in recent weeks, so that most educated people now know what a sub-prime mortgage is and why this particular creature has generated so much trouble.
But understanding the US real-estate market and even the arcane workings of Wall Street and its new alphabet soup of CLOs comprised of ABSs from AAA through BBB and beyond - all are merely the symptoms. What has happened and is happening is far beyond mere finance or even economics - which explains why so many professional money people still don't understand what they have helped wrought.
While it is clear that we have witnessed over these last 7-10 years the greatest explosion of wealth-creation in human history, and while it is also clear that much of this wealth is phoney, because it is built on borrowed money, what is less clear is the sociological and even psychological dynamics behind the lending, spending, investing and speculating.
To get a fuller understanding of the extent to which American society (as well as British, Irish, Australian and others) have been subverted by the availability of cheap money and the pursuit of easy riches it has engendered, I would strongly recommend an article from Fortune magazine, available at CNN on http://money.cnn.com/2007/08/06/magazines/fsb/real_estate.fsb/index.htm?postversion=2007080816. To call it shocking would be an understatement, but let's just say that it's about an institution called Nouveau Riche University, which actually exists and is flourishing by persuading ordinary people that they, too, can become rich (through real estate investment, of course). Even if you have read first-hand accounts of the tulip craze in 17th century Amsterdam, or the South Sea Bubble of 1720, or the Florida swamps in the 1920s, or any of the great speculative mania of modern history - it's unlikely you will come across a more graphic picture of money-induced madness, presented in real time, because it's still ongoing.
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