Why the stock market’s plunge is NOT the sound of a bubble bursting

[SirLinksALot]

SOURCE: MARKETWATCH

URL: https://www.marketwatch.com/story/heres-some-good-news-about-the-stock-markets-plunge-2018-02-05

BY Mark Hulbert


Whatever it is that’s bringing the stock market down sharply, it’s not the bursting of a bubble. That’s because the recent market — overheated and overvalued as it has been — doesn’t even come close to past market bubbles.

And the stock market’s plunge over the last week — more than 2,000 points on the Dow Jones Industrial Average DJIA, +0.07%  on an intra-day basis — also doesn’t compare to the carnage of a bubble bursting.

That at least is what I conclude from academic research into the precursors of past market bubbles.


Consider first a study that was published in 2006 by Malcolm Baker, a finance professor at Harvard Business School, and Jeffrey Wurgler, a finance professor at NYU. They devised a number of objective indicators of irrational exuberance that, in backtesting, were highly correlated with bubbles such as the 1929 stock market crash and the bursting of the Internet bubble in early 2000.

Here are several of those indicators:

• Number of IPOs: One measure of irrational exuberance is lots of companies going public, and the current market is far colder. In 1999, for example, the last full year before the internet bubble burst, there were 477 IPOs, according to Jay Ritter, a finance professor at the University of Florida. In 2017, there were 108.

• IPOs’ first-day return: A related indicator is the average amount by which IPOs jump in their first day of trading. In 1999, according to Ritter, that average was 57%; in 2017, in contrast, it was 15%.

• Dividend premium: This is the valuation differential between speculative newer firms (as indicated by whether or not they pay a dividend) and the more established dividend payers. When exuberance is high, Baker and Wurgler found, non-dividend-payers have higher ratios than payers. At the top of the Internet bubble in early 2000, for example, non-dividend-payers had on average a 43% higher price/book ratio than those paying a dividend. Today it is the dividend companies with the higher valuations — 7% higher, according to FactSet, among stocks in the S&P 1500 index.

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[Free Vulcan]

Not yet anyway. Short term, it's a needed blowing off the froth. That's not to say it's not the first shot that may foretell a longer term top. There were some big scary down days in the late 90's and 00's bull markets that pointed to the ultimate market weakness a year or two off.

Nothing to panic over, but definitely keep an eye on.

[truth_seeker]

Oct. 1987 23% drop in one day.

Panic, sell="realize" a loss.

Hold, wait=no ploblema. Market recovers and continues up.

These two days just passed, have been expected for a long time.

[InHeavenThereIsNoBeer]

Oct. 1987 23% drop in one day.

Panic, sell="realize" a loss.

Hold, wait=no ploblema. Market recovers and continues up.

These two days just passed, have been expected for a long time.

Those who panicked after the few consecutive days of substantial losses leading into BM avoided the 23% loss.

Those who panicked on BM (and could get their broker to answer the phone and find traders willing to buy) and bought in later after a few months worth of decline made a lot more than those who held.

[SirLinksALot]

The Dow closed up 567 points or 2.33% today after opening with a 500 point plunge at the start of the day.

We investors are being played by the computer algos and High Frequency Traders.

[Free Vulcan]

The Dow closed up 567 points or 2.33% today after opening with a 500 point plunge at the start of the day.

We investors are being played by the computer algos and High Frequency Traders.

Actually, 100 years ago the markets were far more volatile, until the FDR braking rules slowed them down. Volatility is not necessarily a bad thing.