Balancing Buyers and Sellers

Just a couple of weeks ago, it happened yet again. Another successive series of 24-hour news cycles carrying obviously contradictory “news” that, depending on when you heard it or how you normally respond to such information created temporary euphoria or momentary panic.   I am speaking of the daily tracking of the Dow Jones Average.

Now,   I have never held a series 7 license to sell stocks or any other certification to advise those who buy them. My opinion is based on the economic logic of watching the market for many years.

It seems as though on Monday and Tuesday of this recent week, the DJA was still climbing further north, fresh out of a successful run-up in September and October that took the Dow to its highest point since the recession began in 2007. The daily quotes were piling in neatly couched in some typical 10-word justification like “investors responded positively to the uptick in leading economic indicators,” or “investors were optimistic about recent downward trends in first-time unemployment insurance claims.”

But then suddenly on Wednesday, “stock prices fell sharply as investors were spooked by the European Union’s tough talk on troubled Ireland and Portugal.”

 My opinion? The whole notion that the Dow Jones Average can really move on any day in response to any one new piece of financial data is pure bull. Repeat: Bull.

Now granted, a major domestic or international event, financial or otherwise, can disrupt the market.  Think about 9/11, or a currency crisis with an important trading partner, etc. Some events can literally be the force that moves the market, usually by creating a temporary panic that drives transactions to respond.

But to suggest that something relatively benign to a majority of investors to be ‘the event’ to which the day’s movement is attributed to is illogical.   Not only does it not really happen, the constant barrage of these one-liners has dumbed down many average investors.

Let’s play with an example to make my point. Imagine you hear a report that “stocks fell today over worries about the US dollar’s fall against the Japanese yen, which sent the DJA reeling 73 points to….” It is beyond logic.  

First, who gets hurt with a weaker dollar relative to the yen? Importers and resellers of Japanese goods, such as Toyota Corollas and Mitsubishi large screen televisions.  But who gains from a stronger yen? The list includes U.S. manufacturers of autos, televisions, electrical parts, engines, machine tools, and semi-conductors, all of which we currently purchase heavily from Japan. These forces may be strong enough to completely trade off the net economic effect, but clearly there are winners and losers.

Mind you that regardless of the real impact of the currency movement on that day (and currencies are constantly in motion), the share prices are not going to respond on the very day of a currency change due to the real economics, but rather because the traders use that change to prompt a buy or sell transaction. There will not be a real one day change in the industrial prospects based on one day’s exchange rate. Real orders and purchasing trends do not switch that fast.

Digging further on this issue, let’s analyze the causes and effects:

Causes:

1. The 24-hour news cycle needs a story; with over 70% of the US population in the market (albeit a majority via retirement funds, IRAs, and 401-k plans), the Dow Jones Average becomes a legitimate story, and is probably the most recognized litmus test of our economic health. Every second of it.

2. Television is expensive – they can’t afford the air time to daily explain the real forces working in DJA that probably move more often in waves rather than spikes. In other words, it takes more than a five second sound bite to analyze the market.

3. We as a culture are too fixated on the second, rather than the season. Market goes up, and on paper you may have earned a couple of thousand today…. Feels good.   Feels just as lousy when you lose a couple of thousand. On paper, that is.

4. Talking media heads source these viewpoints from individuals who in fact do attribute the impact of their narrow market work to these events. Think about a market specialist who trades Home Depot shares, and feels that they will definitely be affected positively by the forecast of a probable active hurricane season in the Gulf of Mexico. He sees the DJA moving up. But that viewpoint would be opposite of the specialist trading in casualty insurance stocks.

Effects:

1. If you are in the market, your euphoria and stress constantly get artificially stimulated by a tidbit of news that should not matter. In the example above, if your investments don’t hold plenty of Euros and don’t buy or sell Irish goods, the EU’s machinations with Ireland won’t have a direct impact on your investments.

2. For those not in the market, they may tune into this news only intermittently, and can get a false impression about the relative importance of particular news based on the financial results incorrectly attributed to it.

3. If a majority of listeners accepted the brief and illogical explanation as gospel, then basic economic competency retreats, making it easier for these folks to be scammed by fast-talking people who hold all those security licenses.

4. Since some investors buy or sell on these brief, sketchy analyses, the system is ripe for false reporting, and those that get paid every time a trade is made do very well.

Here is my bottom line:

The Dow Jones Average moves up almost every day that there are more buyers than sellers.   It moves down on almost every day there are more sellers than buyers. Sound familiar?   Supply and demand. If you want shares in Genuine Parts, but no one is selling, you have to offer a higher price. If you want to sell your shares of Coca-Cola and there are no takers, you might have to lower your price. Aggregate these behaviors over 30 companies comprising the DJA, and you get an idea of how fluid the index is, and all the competing factors that can change it.

The market moves because of money.   There are few events occurring in the world that will unify investors across a broad spectrum of industries to make them decide that they need to buy or sell today. What is bad news for construction industry may be good news for home furnishing stores and the industries that supply them. What is bad news for food processors may be great news for small agriculture producers and the industries that supply them.

Don’t get mislead by headlines or simple answers to complicated finances.

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