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  • The Greatest Market Crashes And What We Didn't Learn From Them

    By John F.M. Kocsis

    Complex tools of finance have been around for almost half a century, yielding countless benefits to investors who know how to properly utilize their functionality. However, the mere existence of monetary contracts designed to deal with uncertainty and risk does not always lead to economic prosperity. Often throughout history, the market has fundamentally misjudged the optimal way in which financial products should be used. In a perfect world, mankind would learn from these mistakes so that similar detrimental occurrences would not happen again in the future. Unfortunately, people have been unable to gain crucial insights from some of the worst crashes in world history.

    Dutch Tulip Craze

    Today, economic analysts will often describe speculative price bubbles as examples of "tulip mania," a reference to the first economic balloon in history. During the 1630s, elites in the Netherlands began searching for ways to celebrate their newfound independence. One method to display confidence in their affluence was through the symbolic tulip, a floral anomaly due to the unique nature of its bulb. Tulips do not grow quickly, so an increase in their demand could not be met with a commensurate increase in their supply. This led primarily to more transactions in which tulips exchanged hands, since traders could easily find another Dutchmen willing to pay more for the flower. Speculators became certain that tulips would do nothing but increase in value, leading the creation of the first futures market-traders would simply trade promises for tulips rather than flowers themselves. These contracts were eventually exchanged up to ten times a day, with each purchaser understanding that someone would pay more for it in the future.

    Nothing particularly special happened to the quality of tulips to warrant an ascent in their prices from 50 to 5000 guilders in just a couple years time. Rather, the valuations the market gave to the flowers deviated wildly to each bulb's intrinsic worth. This was ultimately unsustainable and the bubble burst when it became clear that investors stood nothing to gain from buying a relatively inexpensive bud. This should have been the financial industry's first indication to study appreciation of asset prices. If investors had understood that the absolute value of tulips remained constant, rational men would not have participated in what was doomed to be an overvalued sale. Yet, speculators looked much more closely at the actions of the crowd, which perpetuated the transactions. Investors have so far been unable to learn both the perils of paying above an asset's true value and the dangers of being directed by the whims of the masses. With that knowledge, the dotcom bubble and housing bubble could have potentially been avoided.

    The Great Depression

    When one thinks about the beginning of the Great Depression, the worst period in America's economic history, his mind immediately jumps to Black Tuesday and the stock market crash of 1929. The market fell 12% two consecutive days and continued to plummet thereafter en route to the lowest Dow Jones Industrial Value ever recorded. The crash was fueled by several institutional issues, the first of which was yet another speculative bubble. The stock market rose indiscriminately during the Roaring Twenties, propelling more and more people to enter the marketplace. Not everyone could afford the stocks in their portfolio, leading the trend of investor buying on the margins. This further inflated the growing market balloon with funds speculators were gambling would eventually exist. To finance these bettors, brokers loaned out a total of $8.5 billion, much more than the entire monetary supply, which had recently been contracted by the Federal Reserve. After the Dow displayed erraticism, many investors panicked, forcing the Great Crash and the Great Depression. The American government likes to believe it learned a great deal from the Great Depression, such as that the federal government should ensure bank deposits. Of course, neither speculation nor margin buying has yet to cease. Additionally, banks can still use deposits to engage in securities activities, providing the possibility of losing the funds again given another market failure.

    Black Monday

    After the devastating effects of the Wall Street crash of 1929, the government took actions to guarantee the suspension of trading if the market appeared to be in a free fall. However, this supposed safety valve could not prevent Black Monday, in which the Dow Jones Industrial Average dropped over 22% in a day, the largest in its history. On the morning of October 19, 1987, markets began falling in Hong Kong, an effect that metastasized throughout the world the entire day. Observers were eager to attribute the crash to an influx of program trading, a relatively new phenomenon given the recent improvement in computing technology. For the first time in the stock market history, traders could utilize computer algorithms to find arbitrage and instantly make transactions at opportune times. This corresponded to an increase in the portfolio insurance strategy, in which institutional investors short index futures. This strategy forced derivatives writers to perpetuate selling as the market declined, just as computers continued methodical selling as well.

    Program trading did not end with Black Monday, as technology has continued to improve. Algorithms are no longer a novel phenomenon but rather the engines behind most Wall Street transactions. Investors increasingly allow their programs to seek out market inefficiencies, allowing them to maximize their profit. While this ensures the stock market is efficient, it can be dangerous if allowed to receive external signals to spiral into the routine of selling.

    Asian Financial Crisis

    The 2007-2008 global economic crisis is often hailed as an international meltdown of proportions unknown to man since the Great Depression. That viewpoint ignores a very serious crash that happened merely a decade before in the countries of Asia. Emerging economies in the region realized that their high interest rates were unsustainable, since they were unable to service their heavy debts to foreign investors. The interest rates, amalgamated with their export-orientation, drew international attention that fueled a large amount of real estate speculation. After several years of ballooning asset prices, foreigners soon realized that total factor productivity was not raising concomitant with the investments they were making. This epiphany led to a rapid withdrawal of credit by international lenders, making it impossible for Asian sovereign nations to repay their obligations. The nations panicked and let their currencies float - a disastrous policy in that it aggrandized the size of their foreign liabilities. This episode of history holds several important lessons for emerging economies and those who flirt with sovereign debt. The first is a recurring theme throughout macroeconomics-investors should do more adequate research before letting speculation spiral out of control. Sovereignties such as Thailand and Indonesia had abysmally constructed domestic monetary systems that were not supported by sensible fiscal policies. In a global economic system, world investors inaccurately believed the global conditions mattered more than those in place in individual nations. Thus, they could not recognize the lack of sound banks or the lack of foreign exchange reserves. Investors were also blind to rampant crony capitalism sure to lead to a misallocation of resources. As globalization gradually shifts economics from a micro to a macro perspective, it is important not to lose sight of the fundamentals that decide the ultimate rate of return on investments.

    Flash Crash

    In 2010, America was at the outset of economic recovery, although it was not far removed from a precipice that would have propelled it back into the torrents of recession. Such an outcome seemed possible, even probable, in May, when the Dow fell 1,000 points amid troubling global economic data. The stock market lost 600 of those points in the span of five minutes, an obvious result of the increasing ease of trading facilitated by computers. The aptly titled flash crash did not last long enough to return the country to 2008, however, as the market regained the $1 trillion in lost value within twenty minutes. Algorithms, specifically high frequency trading, caused the short-lived crash. This attempt at arbitrage involves programs aiming to become the quickest - and most frequent - earners from even the slightest inefficiencies. The Congressional report on the crash deemed that a mutual fund started the crash with a large sale of future contracts, which HFTs jumped on and continued to sell, despite an overall lack of buyers. The high frequency trading institutions began selling them to each other at lower and lower prices, until the market realized the aggressive sales did not represent an accurate valuation of the assets. Despite the negative effects of this incident, financial institutions still engage in a large amount of high frequency trading as what is considered a profitable way to purchase a stock short term.

    Mar 28 5:25 PM | Link | Comment!
  • Can Jeremy Lin Boost Your Stocks?

    By Jake Mann

    The sudden rise of the New York Knicks' Jeremy Lin has been one of the most remarkable stories of 2012. The 6'3", 200 lb. point guard has been the world's most iconic basketball star since being promoted to start four weeks ago for an underachieving Knicks squad that had started the NBA season at a 7-15 mark. Since recording 25 points against the New Jersey Nets on February 4th, Lin has led his team to a 9-3 record, including a theatrical 7-game win streak. Most importantly, the Knickerbockers have risen to 2nd place in the division standings, breathing a spark into the city of New York. In the process, puns for the Harvard grad's rise to fame have been creative to say the least. Most call it "Linsanity", but the expressions "Lincredible", "Linderella Story", "Lintelligence", and "All He Does Is Lin, Lin, Lin" have been (over)used by talking heads throughout the media world.

    Well, Wall Street has taken notice, and "Linsanity" has had an impact on the a few stocks in particular.

    Madison Square Garden Company (MSG) - No, this is not the salty flavoring that comes on your fast food, it is the company that owns the Knicks, their arena, and the team's cable network. Since the emergence of Jeremy Lin, MSG stock has risen 16 percent, and recently hit an all-time high of $33.43 a share. While some say this is a "Linsanity"-induced bubble, there is reason to believe that Lin can have long-lasting effects. Just look at the main profit-generating activities of the company - ticket sales, merchandise sales, and TV advertising - all of which have been exploding in recent weeks.

    The average price of a ticket at Madison Square Garden has risen from $80 to over $100, online merchandise sales have increased 3,000 fold, and TV ratings of MSG Network have jumped almost 70 percent. If these three areas of the company's business continue to remain elevated, MSG's earnings will increase over the coming months, and its stock price should move higher. It makes sense - the biggest market in the NBA finally has an underdog-turned-superstar that can lead its beloved team to the playoffs and fans are taking notice.

    Nike, Inc. (NKE) - Yes, the sportswear company's stock has risen almost 6 percent over the last month, and no, this is not completely due to Jeremy Lin, though the point guard should have a positive effect on shares of NIKE in the future. After his marketing potential became apparent, the company signed Lin to a significant multi-year contract, though the exact terms of the deal have not been announced. This move makes sense, as the footwear giant is planning to release a Jeremy Lin shoe to the American and Asian markets. Lin's rich cultural heritage - he is a dual-citizen of Taiwan and the United States - will provide Nike with more than enough buyers willing to shell out $100-plus to buy the kicks.

    Adidas Group (ADDYY.PK) - An obvious rival to Nike, Adidas will also benefit from the hype because it is the official provider of NBA jerseys in the United States and China. In the past month, sales of jerseys donning the names "Lin" and "Linsanity" have skyrocketed. Between February 4th and 12th, the jersey was ranked number 1 in total sales, ahead of the Chicago Bulls' Derrick Rose. During this same time, the Knicks were also the number 1 team in terms of total jersey sales. These sales increases were the icing on Adidas's proverbial cake, as Knicks merchandise sales is already up 200 percent in the past year. Undoubtedly, it benefits shares of Adidas stock that sales in the NBA's largest market have such an upward momentum.

    Unilever N.V. (UN) - Okay, this one is a bit of a stretch, but it is worth mentioning. Unilever owns the ice cream company Ben & Jerry's, which has recently released a flavor called "Taste The Lin-Sanity." This contains a delightful mix of vanilla frozen yogurt, honey swirls, and waffle cone pieces that is only available at the Harvard Square location. Proceeds from sales will be given to local non-profits in the Cambridge area, so it is obvious that the product will not affect the overall sales numbers of Ben & Jerry's. It is possible that investors could get caught up in the "Linsanity" and want to own shares of Unilever, but highly, highly unlikely. If shares of UN do receive a boost attributable to the ice cream, all theories of stock market rationality should be thrown out the window.

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

    Tags: MSG, NKE, ADDYY, UN
    Mar 20 5:24 PM | Link | Comment!
  • Hit A Home Run With These Stocks This MLB Season!

    By Jake Mann

    Major League Baseball season is just around the corner and there are plenty of reasons for fans to be excited about America's Pastime, both on and off of the diamond. This past winter, a number of the sport's biggest stars have moved teams - Albert Pujols, Prince Fielder, and José Reyes to name a few. These roster moves prove that teams like the Los Angeles Angels of Anaheim, and the Miami Marlins are ready to join the ranks of serious World Series contenders. Aside from the professional athletes that make this sport great, investors too can make a play this upcoming MLB season. Who knows, they might even hit a home run with these stock picks.

    V.F. Corporation (VFC) - A U.S. based Apparel Company that dates its beginnings back to the turn of the 20th century; V.F. Corporation owns a number of popular clothing brands, including Majestic Athletic, the MLB's official uniform provider. Since 2005, Majestic has been the league's primary producer of authentic jerseys, jackets and all gear imaginable. In this time, jersey sales have increased steadily, hitting an all-time high in 2010 while maintaining that ground in 2011. There are plenty of reasons for jersey sales to spike even higher in 2012, as 6 of the 30 MLB teams are making significant changes to their uniforms. Most likely, fans of the San Diego Padres, Miami Marlins, Baltimore Orioles, New York Mets, Toronto Blue Jays, and Colorado Rockies will don their teams' newest threads by midsummer. This would boost shares of VFC, which have already jumped 56 percent over the past year.

    News Corporation (NWS) - A media corporation based in America, News Corp. owns Fox Sports Net, a group of 19 regional cable TV networks that have exclusive coverage of MLB teams in their areas. Termed names like "Fox Sports Arizona" or "Fox Sports Midwest," these networks cover two-thirds of the league's teams (larger teams like the Yankees and Red Sox have their own stations). The current competitive balancing-act that is occurring in Major League Baseball bodes well for smaller-market teams like the Tampa Bay Rays and Milwaukee Brewers that can be seen on Fox Sports Net. The numbers support this argument, as total advertising sales were up 30 percent in 2011, and since the start of 2012, NWS stock has increased 11 percent. If small-market fans continue to watch their favorite teams on Fox Sports Net this baseball season, look for shares of NWS to bounce even higher.

    PepsiCo, Inc. (PEP) - PepsiCo, which has interests in just about every junk food imaginable, is the MLB's official provider of soft drinks and sunflower seeds. In Babe Ruth's time, these two food groups were the best kinds of "performance enhancers," and while players these days seem to think otherwise, the two products are still staples at the ballpark. While shares of PEP have remained relatively flat around $63 a share over the last year, PepsiCo executives are employing a "high-growth" strategy in 2012 by introducing a new digital marketing campaign in time for - you guessed it - baseball season. They are hopeful that PEP's share price can receive a boost from these efforts, and you should be too.

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

    Tags: VFC, NWS, PEP
    Mar 20 5:21 PM | Link | Comment!
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