Are Markets Driven by Fact or Emotion? by Craig Pickering, 25 April, 2009
Are all markets now ruled by irrational emotions? Are the days of predicting trends by drawing intricate graphs gone forever?
With the major banks improving their market share way beyond their own expectations, and this despite them reducing mortgage broker commissions and not passing on the full
Reserve Bank of Australia rate decreases, they can be forgiven for thinking that Christmas definitely came early this year.
In fact they have re-written all existing marketing philosophies by currently experiencing their strongest market position for 15 years (Financial Review Newspaper). If any other business had treated its market channel and clients in this manner then conventional wisdom would have them drastically losing market share. So what is their secret?
Emotions in the Market
Fear.
Customers have been frightened by news of non-banks and banks in the US closing their doors. This has led them to react in the same way market investors do when the stock market plummets. Investors shift to gold, and the price of gold has risen sharply in recent times. Mums and Dads shifted to banks, as they perceive them as being "gold" in these troubled times. This perception was given a massive boost by the Australian Federal Government’s recent bank deposit guarantee. Some non-bank lenders have only reinforced this perception by pulling out of the residential mortgage market.
Are Markets Now Emotion Driven?
This raises a significant question: Do markets react according to the release of factual market-based information, or are they ruled by the collective emotion of investors? To analyse this question properly would take several hundred pages of theory, tables, and timeline analysis.
In the interests of time, suffice it to say that the stock, property and commodity markets respond to the collective majority of expectations of investors. That is, if the majority of investors expect the price of a particular stock to increase, they buy that stock and the price goes up, thereby fulfilling their expectations.
The reverse applies (as we have unfortunately witnessed during the preceding months) when investors expect a stock price to fall. They start selling, and the price starts