Market psychology cycle- how close to the peak?

Watch the tech stocks as caution reigns over markets

IT is weeks to the 10th anniversary of the stock market crash. Lehman Brothers declared bankruptcy in September 2008, setting in motion a swift downward draft from global shares and commodities to gold and property. US Treasury bonds, backed by a surge of the US dollar, were by far the safest and also profitable investments.

After a market bloodbath, shares of industrial and business companies bottomed in November 2008. In December 2008, the Bernie Madoff ponzi scheme was exposed, causing banks and other financial shares to tumble to their nadirs in February 2009.

The chart by Jean-Paul Rodrigue of Hofstra University, Long Island New York, shows how the psychology of investors changes in bull and bear markets. As the market reaches the bottom, brave, sometimes foolhardy investors begin picking stocks that can fall further before they turn around. Then the market begins to take off, a period which invariably provides the best gains for those investors who bought at the bottom.

Cycle Chart- The changing psychology of investors 

A previously wary media becomes more optimistic and investor enthusiasm builds up. As the bull market grows older, there are false setbacks and warnings from Cassandras. In the later phases, enthusiasm turns to greed and those who have not participated and fret that they have been left out, join the party. Near the top when shares or other investments are clearly overvalued, deluded investors follow the momentum and buy near or at the peak.

When the market first breaks, investors are in denial and “buy on the dip”. That policy had worked during small correction phases of the bull market, but this time, prices fall further. Fearful investors hang on and depending on their financial circumstances, capitulate until the market touches bargain basement levels when the crowd is in despair.

After almost 10 years, the current bull market is long in the tooth

Most Cassandras have become pundit pariahs. Of course, there are the usual warnings, notably that the Federal Reserve Board is beginning to raise interest rates slightly; that the European Central Bank intends to stop quantitative easing at the end of the year and US President Donald Trump’s trade tariffs will beget a global trade war.

Indeed, there is some caution, but at the most, the market will “correct” 5 to 10 per cent, the majority of experts say. The market would then revive and reach even greater heights.

Generally, however, the market is taking little notice of the main threat to the continuation of stock market happiness.

Overvalued FAANGS A Danger

Focus on FAANGS, those truly fashionable, sometimes controversial shares, notably Facebook, Amazon, Apple, Netflix and Google. Adding Microsoft to the group, the market capitalisation of the stocks comes to an astounding US$4.1 trillion. Their combined market capitalisation is now higher than the entire values of the German and French stock markets. It is very close to Japan’s level and the market cap of several of those individual stocks is higher than Singapore’s levels.

After an extraordinary rise, the shares can hardly be regarded as bargains, despite gunslinger fund managers regarding them as the long-term Nirvana of earnings growth.

According to broker Charles Schwab, Amazon’s current PE is a mind-boggling 274, Netflix 242, Google 31, Facebook 29, Microsoft 28 and Apple 17. If the tech and new media group falls for any reason, the impact could be global. They are underpinning Nasdaq and the S&P 500. Several Exchange Traded Funds (ETFs) depend on them. If FAANGS choke and Wall Street coughs, Europe, Asia and emerging markets could be made seriously sick.

© copyright Neil Behrmann

 Neil Behrmann is London correspondent of The Business Times. Jack of Diamonds his thriller on global diamond mining and smuggling, has just been published. It is the sequel to the thriller, Trader Jack, The Story of Jack Miner

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