What Does George Soros See About The U.S Stock Market Investors Emotive Cycle And The Credit Crisis

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Investors Emotive Cycle And The Credit Crisis

In high school we were introduced to the economy and the cycle of growth, maturity, slowdown, depression and revival. Over the centuries, most businesses and industries have moved from peaks to troughs. The investor’s job is to determine the current state of the stock market cycle of these businesses and make an informed decision to invest or divest based on valuations.

But these patterns don’t just apply to businesses or sectors. In fact, individual human behavior is no different. There are 5 behaviors that best describe the state of an investor in the confusion of financial markets – greed, disbelief, denial, fear, anger.

While the first four are very prominent phases during financial crises, “anger” is one type of behavior that seems to have taken hold of investors. George Soros is angry at the Federal Reserve; federal authorities furious with private equity firms and hedge funds that bought mortgage-backed securities; these institutions are abusing the rating agencies that have misrated these tranches; rating agencies are furious at the lack of data provided by banks offering these assets; these banks blame mortgage consumers; and consumers who blame these banks for excessive borrowing; the banks are crying because the feds raised interest rates, thereby lowering home prices…the blame game never ends. All evil!

Anger arises when trust is broken. But who is to blame for this? Look at it this way: you wouldn’t lend money to a nice family that lives 3 houses down the road. But you conveniently lend it to an unregulated entity called a hedge fund. You trusted (and your money) a stranger.

According to an article in the Economist (here), the financial market is largely based on trust. Regulators must trust financial institutions because they cannot foresee the danger of a financial idea before the danger occurs. They must allow the market to develop. Incidentally, the credit crisis required much greater involvement of regulators. As Josef Ackermann, CEO of Deutsche Bank, aptly put it, “I no longer believe in the market’s ability to repair itself.”

While there is always risk involved in investing, our approach as value investors should be to minimize our exposure to those risks. Like Charlie Munger who says, “Build a 30,000-ton bridge for a 10,000-ton truck.” He and Warren Buffett have also argued that they nervously invest in businesses they don’t understand. The subprime crisis was similar because the complex structure made it difficult to understand the nature and quality of the asset.. even today banks and central banks are unsure of the extent of the damage.. some say it could be as high as $30 trillion.

Article posted at: http://scrip-tures.blogspot.com/2008/04/investors-emotive-cycle-and-credit.html

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