Signals and Noise (Part 2)

How do you tell what’s really happening?

When the newsreels stop rolling and the microphones go away, you’re often left with the impression that a circus parade just rolled by. Did anything actually change, or did we just see a cavalcade of horses, camels, and elephants roll down Main Street?

When a major news event happens, one thing that does change is our perception of the news. Those perceptions meld together into expectations, and those expectations get built into stock and bond prices. It doesn’t happen perfectly and it doesn’t happen all at once, but market prices tend to reflect the general news stream.

That’s why everyone was so downcast in the winter of 2009. The major banks had taken major losses, and there were rumors that some of them could be nationalized. The market’s gloom wasn’t purely irrational. It reflected the news-flow at the time. By contrast, the sky-high sentiment we saw at the top of the technology bubble mirrored the stories of increased productivity and growing investment spending.

Because feelings tend to feed on themselves in a positive feedback loop, these market booms and busts get overdone. Folks look back at those times and ask themselves, “What were we thinking?”

It’s a fair question. Because when everybody thinks alike, somebody isn’t thinking at all.

Douglas R. Tengdin, CFA

Chief Investment Officer

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