Blog: Herd mentality and psychology of the markets
Dave Leggett | 23 January 2008
We're at a critical juncture for the world economy right now and I must admit to finding the psychology of what is going on pretty absorbing - and, of course, what happens at the macro level to the world economy this year will be crucial to the demand environment in the automotive business. The sudden lurches in 'market sentiment' are certainly scary and demonstrate what happens when a kind of herd mentality takes over. (Sell, sell - get out of equities, now! Buy, buy - we've hit the floor now the Fed has slashed interest rates - bargains out there!)
I thought this commentary on where we are right now - coupled with a good dose of historical context - was good: Evan Davis' (BBC economics editor) blog
It sounds as if 2008 will be a tough year generally as the global economy adjusts to a much more cautious US consumer. The question is: how far will what has happened in the US spread elsewhere and to what extent will the real economy, worldwide, be hit by what goes on in financial markets (wholesale credit market crunch working through and, via confidence, share prices). There are also wealth effects from housing market woes to work through, too - especially in the US and potentially the UK (and Spain).
Slashing interest rates so quickly does look panicky and is double-edged. It makes debt cheaper and improves financial prospects for many companies. It's therefore supportive at face value, but paradoxically, perhaps it sends a message that the 'crisis' is much worse than everyone realised. Yikes! And what's a company worth anyway? What's a share price worth? Whatever someone is willing to pay and that's an elastic concept even in the best of times. If the view spreads that 'market sentiment' is even more depressed now, that the fundamentals are worse that we thought, what do the authorities do next? And don't forget that inflationary pressures (mainly energy prices) are still backed up in the system.
The pessimists have plenty of ammo.
Thank goodness, then, that the balance of the global economy has shifted and that China and India can keep things going globally if the US slows dramatically. Can they though? Shanghai's stockmarket has been among the biggest fallers and is vulnerable on the back of a massive speculative boom in China. And China's economy has been enjoying massive export earnings on the back of those splurging US consumers.
Mervyn King at the Bank of England doesn't seem to have helped and the media has latched on to pretty downbeat comments by George Soros (not a guy whose views can be easily dismissed).
We're perhaps in the middle of the storm now. It could deepen or it could blow out (and by the end of 2008 we'll all be wondering what the fuss was all about). Soft landing or hard landing? Will we talk ourselves into a recession (and it has been a while since the last one)? Is there a bubble to get us out of this one like housing in the US was seven years ago (emerging markets?). We certainly live in interesting times.
If you're interested more specifically in the outlook for the auto industry in 2008, we've a management briefing on that.
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