The Explanations Given For Bull Markets Are Almost Always Made Up

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Bull market and bear market

Stock prices are up because technological innovations have the potential to bring in an era of increased economic productivity.

Stock prices are up because world leaders are working to secure peace agreements.

Stock prices are up because inflation is under control.

There’s always a reason.

Humans have a deep need to make sense of the world about them. So, when stock prices rise, we advance and then come to believe in explanations for the price increases. What we do not do is to submit those explanations to the scientific scrutiny that would be needed to verify them as accurate.

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I don’t believe any of it.

There have been times of technological innovation when stock prices rose and there have been times of technological innovation when prices fell. There have been times when peace agreements were being worked out when stock prices rose and there have been times when peace agreements were being worked out when stock prices fell.

There have been times when inflation was under control when stock prices rose and there have been times when inflation was under control when stock prices fell.

What really causes stock price increases? The primary factor is investor emotion. All investors desire bigger numbers on their portfolio statement. So they work together (in a quiet way, largely not conscious of what they are doing) to push stock prices higher. Then they become concerned that they have pushed too hard and they work to bring prices back down.

Explanations Offered For Bull Markets Are Made Up

The official reasons for the price increases can play a role. If a peace agreement is announced, it makes it much easier for investors to rationalize the price increases they want to see and so the price increases tend to be stronger at such times.

But if investor psychology is bad at the time a peace agreement is announced, the price increase can be trivial or there could even be a price drop. It is investor emotion that is the driving force. The explanations offered for bull markets are mostly made up.

The trick with phony price increases is that the majority of investors must believe that they are real if they are to be sustained. If too many come to harbor doubts, a bull market can be transformed into a bear market.

In the minds of most investors, the proof that an explanation for a bull market is valid is the continued existence of the bull market. So the people putting forward the explanations are not inclined to look too closely for flaws in them. They are intended to serve as rationalizations, not as airtight logical arguments.

Most of the stories we come to hear about what is going on in the stock market are narratives that serve the purpose of pushing stock prices higher. We all want higher prices, right? We shouldn’t. We should all want stock prices to reflect the economic realities. We should all want a CAPE value as close to 17 as possible. But higher prices deliver a thrill. So we root for them. Which means that we applaud our own deception.

I have a catch-phrase that I sometimes employ that my Buy-and-Hold friends don’t like one little bit. I say: “Bull markets are liar’s markets.” It’s a harsh way of putting things. But isn’t that the long and short of it all? The mean CAPE value is 17. That number is calculated by taking the entire history of the stock market into consideration.

It is possible that economic growth could increase enough to bring that number up to 18 in the future. But today’s CAPE value is 29. What are the chances that that number is real? It seems highly unlikely to me. It seems entirely possible that today’s proper CAPE value is 18.

But the chances that the true CAPE value is 16 are just as good as the chances that the true CAPE value is 18. How is it that we settled on 29 (it is investors who set the CAPE value through their collective stock-buying and stock-selling choices)? Not through clear thinking, I believe that that much is fair to say.

Rob’s bio is here.

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