From time to time, I think it's important to step back and look at the big picture of the financial world. This is one of those times.
Anyone who has been an investor for longer than the past two decades grew up learning that the market was, in essence, a giant discounting mechanism. Market prices for stocks generally (over time) reflected the long-term outlook for the businesses those stocks represented, and, collectively, those businesses -- i.e., the "market" -- tended to discount, or price in, future trends.
That's not to say it was precisely efficient. It wasn't, but it tended to discount important developments, good and bad, before they occurred. As Warren Buffett (and others) like to say, in the short term, the market is a voting machine, but over the long term, it's a weighing machine.
Yet from 2000 on, it seems as though Mr. Market has essentially gone blind. One even could argue that's been true since the last half of the 1990s. I attribute our friend's "condition" to the consequences of money printing -- which has been so prevalent during the reigns of Alan Greenspan and Ben Bernanke at the Federal Reserve -- because I think such policies encourage much more risk taking and speculation, which make prudence seem foolish. This combination spurs excessive trading based simply on momentum, in various forms.
In addition, in the mid- to late 1990s, epic amounts of computer horsepower became cheap and ubiquitous, which helped give rise to the proliferation of trading strategies based on increasingly complex quantitative models. When the "quants" reverse-engineered what had previously "worked," they created ways to stay ahead of the momentum traders. Consequently, as a result of money printing, speculative/momentum trading and quants, the stock market now often seems shocked when the obvious occurs, when in the past the obvious would have already been priced in.
Of course, this is just a speculative theory on the cause of Mr. Market's myopia, but I don't think it is debatable that the old man doesn't see as well as he once did.
Market delisting a little to one side
Part of what brings on this little rant was the recent "news" that Freddie Mac (FRE, news, msgs) and Fannie Mae (FNM, news, msgs) would be delisted from the New York Stock Exchange, causing their stock prices to plummet about 70% over the next few days. That they were nearly worthless and on their way to zero should not have been a surprise. So why should delisting from the club at Broad and Wall cause such a massive decline if the market was anywhere close to capable of analyzing eventual outcomes?It will be interesting to see how long it takes, and under what circumstances, for the system to get back to being the long-term discounting mechanism, or "weighing," machine that it is supposed to be.
Danger is his middle name
Speaking of Mr. Market, this week a reader sent me a description from Janet Lowe's book "Benjamin Graham on Value Investing." I've read Graham's parable many times over the years, as I'm sure others have, but it's always useful to see again:"Ben Graham explained that you should imagine market quotations as coming from a remarkably accommodating fellow named Mr. Market who is your partner in a private business. Without fail, Mr. Market appears daily and names a price at which he will either buy your interest or sell you his. Even though the business that the two of you own may have economic characteristics that are stable, Mr. Market's quotations will be anything but. For, sad to say, the poor fellow has incurable emotional problems. At times he falls euphoric and can see only the favorable factors affecting the business. When in that mood, he names a high buy-sell price because he fears that you will snap up his interest and rob him of imminent gains. At other times he is depressed and can see nothing but trouble ahead for both the business and the world. On these occasions he will name a very low price, since he is terrified that you will unload your interest on him.
I would just add to Graham's metaphor that high-frequency trading and the paid-to-play investment community have made Mr. Market subject to even bigger mood swings that last far longer than they did historically. The net of that is the old man we see today is still manic, just as Graham suggested, only more so -- and not without reason.
At the time of publication, Bill Fleckenstein did not own or control shares of any company mentioned in this column.