Question of the Day|
If "conventional wisdom" holds that the investors' enthusiasm is a red flag, then is the notion itself folly?
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Over the last few weeks, bullishness has soared as investors seem more embolden now that the collapse of high-flyers seem to be over (especially after the news on Open Table last Friday). Bullishness, as measured by the American Association of Individual Investors, is well below levels associated with stock market tops, but it is at the highest level of the year. Moreover, at 44.7%, the percentage of a bullish individual is noticeably higher than the historic average of 39.0%. Interestingly, there should be this much disdains and fear of regular people putting their hard earned money in the stock market.
"I knew it was time to sell when my shoeshine boy gave me a stock tip."
- Joseph P. Kennedy, Sr.
Long before Joseph Kennedy went to his office and sold everything, the enthusiasm from a shoeshine boy who had given him a stock tip disturbed him. There was the notion that the public was so prone to being wrong about everything, that when someone became excited about 'anything,' it was time for the smart crowd to quietly exit. This notion can be traced back as far as 1841, when Charles Mackay wrote: 'Extraordinary Popular Delusions and the Madness of Crowds.'
Mackay's book covers were all forms of delusions, including witch-hunts and frames, and the Crusades as a European mania, which unnecessarily cost the continent massive treasury and two million lives. However, the bubbles described in the book make it a timeless must-read for everyone, especially those investing in the stock market or seeking an understanding of the dangers of mass hysteria.
The three bubbles:
- Mississippi Company
- South Sea Company
- Tulip Mania
The tulip was an instant hit; first introduced to Europe in 1554, as a gift from the Ottoman Empire to Ferdinand I, the Holy Roman Emperor. By 1593, it was discovered that tulips grew better in the United Province, (now the Netherlands) and their popularity took off. Newly independent from Spain, tulips soon became a status symbol of the time. At its peak, a single tulip bulb was equal in value to ten years of annual income of a skilled craftsman.
According to Mackay, there is a record sell of a single Viceroy bulb, which amounted to the combined purchase of the following:
- 2 last of wheat
- 4 last of rye
- 4 fat oxen
- 8 fat swine
- 12 fat sheep
- 2 hogshead of wine
- 4 tuns of beer
- 2 tons of butter
- 1,000 pounds of cheese
- 1 complete bed
- 1 suit of clothes
- 1 silver drinking cup
As anyone could image, it did not turn out so well... some experts predict this everyday on television about the current market; a predication they have been making since the Dow found support at 6600.
However, as we become what I call the 'Trust Economy' and participate in the great race to garner every nugget of information from the public in order to understand and exploit, we need to also use the information to find answers to perplexing questions and challenges.
'The Wisdom of Crowds: Why the Many Are Smarter Than the Few and How Collective Wisdom Shapes Business, Economies, Societies and Nations.'
What if we have been too harsh about crowd mentality and have gotten it completely wrong? In his book, James Surowiecki, talks about the benefits of the crowd almost in direct contradiction to Mackay's view that crowds automatically become delusional. The Surowiecki model works best when the crowd has these four factors:
This is a thoughtful approach to crowds, and I think it has a lot of merit. In this era of political echo- chambers and approaches that aim to separate people, rather than bring them together, the very idea that we are all stronger and smarter as a unit is appealing.
Crowds Right and Wrong
"It will be convenient to have a name for the ideas which are esteemed at any time for their acceptability, and it should be a term that emphasizes this predictability. I shall refer to these ideas henceforth as the conventional wisdom."
-John Kenneth Galbraith
Economist, John Kenneth Galbraith did not coin the phrase. (The term in actuality is much older and dates at least to 1838), however he popularized it through his books, most noticeably 'The Affluent Society' in a pejorative manner.
Moreover, I think investors can be late to the game, so to speak, but it does not automatically mean that they are always incorrect.
Therefore, this leaves us with the riddle...
If "conventional wisdom" holds that the investors enthusiasm is a red flag, then is the notion itself folly?
Despite the dip in equity futures this morning, all of the economic data released beat consensus, and in our view is pointing to a stronger second half of 2014. We will have details on the economic releases in the afternoon note today.