Investment Theory on Human Action and Price Action

A quick recap of the weekend: Syria has shot down a Turkish military jet, the Muslim Brotherhood has won power in Egypt, England lost on penalties (again), North smashed Adelaide, and the blithering idiots who pretend to run Europe’s economy have decided that spending more money is the answer!

All in all, it was an eventful couple of days. As we settle in for another big week at our headquarters in St Kilda, the first cab off the rank is the plan by Spain, Italy, France, and Germany to spend $163 billion to promote ‘growth’. Growth is the antidote to austerity, apparently.

As if the government knows anything about creating prosperity. Just look at Australia’s soon-to-be live carbon tax and you’ll see that all the government can really do is take away from one group (companies that produce carbon dioxide emissions in their manufacturing operations) and give it to another group of people (voters who will face higher power bills because of the carbon price, and wonder what’s going on).

You can think of the last five years as a series of financial car wrecks. Repeated head traumas have damaged the cognitive functions of politicians, policy makers, and bankers. Their minds are stuck in a pattern of thinking where there’s only one response to every crisis: take more control and spend more money. This is brain-damaged capitalism.

In any event, the mere fact of making an announcement about something succeeds in changing the narrative for a few days, until the next reality check comes. In the meantime, feel free to completely ignore the EU summit later this week. It means nothing and you will learn nothing valuable from wasting any thought on it.

The price action in the market can tell you far more about to expect from the share market. Our mate Murray Dawes is out with his latest forecast tomorrow. We won’t reveal his whole thesis. But if you’re interested in an idea that has some explanatory power, stay tuned. And watch the 4,200 level on the ASX/200!

But let’s take a step back today. It’s a Monday, so we’re in the mood to get the lay of the land. Sometimes it pays to put the paper down and just think. Where are we? Where are we going? Can general theories about the world help you as an investor?

Great scientific theories have explanatory AND predictive power. But of course in markets, you can never predict what’s going to happen next. To the extent that markets are like life, tomorrow is usually like today, and today is usually like yesterday. Most of life’s events fall in a fairly normal distribution in which there isn’t a huge amount of variety or volatility.

But as Nassim Taleb pointed out in The Black Swan, all the really interesting things that matter most to your life come out of the blue. You meet your future wife while waiting in line for a coffee. You get a call on the phone on a Tuesday afternoon that your father has cancer. You find out you’ve landed a huge business deal or got your dream job while eating a bowl of cereal watching Jeopardy.

You just never know when life will surprise you. But it’s almost certain that the most important things that happen to you ARE surprises. It’s the way of the world. But you certainly don’t want it to be that way in financial markets.

For about twenty years, you were lucky enough to invest in a stock market that was as close to predictable as you get in finance: stocks went up day after day, week after week, year after year. It’s what the experts call a ‘bull market’. Are we in a bull market today?

Well, in some ways it doesn’t matter. You still have to do something with your money regardless of what anyone calls the market. But the underlying assumption about asset prices DOES matter. That is, you have to know where you are in the investment and business cycle to be a good investor.

We’re in a deleveraging and deflationary (for financial asset prices) period. For conservative investors, this means you should probably be pretty conservative. The simplistic investment strategy would be to favour ‘income’ over ‘growth’. Asset allocation investment strategies and portfolios would change accordingly. You might even be able to front-run this allocation shift to the extent that the general public is usually two years behind big events (another theory for another time).

But all this sounds suspiciously like having a ‘feel’ for where things are headed. Feelings are not facts. They aren’t data. They aren’t ideas. They’re just neuro-chemical hunches. That’s no way to make an investment decision, is it?

Well, no…of course not. If you’re going to invest or trade based on an understanding of human psychology and cycles, then you had better have a good idea of how human action shows up in price action. More on that tomorrow…


Dan Denning

for Markets and Money 

From the Archives…

The US Deficit of Deceit
2012-06-22 – Greg Canavan

How Nice to Have Friends At the Fed
2012-06-21 – Bill Bonner

Deep in the Stock Market Trenches
2012-06-20 – Murray Dawes

In Praise of the Eureka Rebellion
2012-06-19 – Dan Denning

What Could Possibly Go Wrong With Infrastructure Investment Bonds?
2012-06-18 – Dan Denning

Dan Denning
Dan Denning examines the geopolitical and economic events that can affect your investments domestically. He raises the questions you need to answer, in order to survive financially in these turbulent times.

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4 Comments on "Investment Theory on Human Action and Price Action"

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Your rhyming is catching on Watcher. Dan here and Reuters there


Love these words too …

and here’s me thinking that they’re all in hock, and about to be carted off to the dock. According to BIS a bit of rebalancing is just the trick.


Ross, in regard to the Reuters article, this is a part of a post, posted to a religious blog, but not accepted, on June 9:

America is the hegemonic nation and so it marches up and down the hills before other nations, so to compare America when it is in a valley with say Europe when it is still somewhat on the previous hill is not objective analysis – Europe is experiencing its Bears Stearns moment (2007) and yet to face it Lehman Brothers moment (2008).


I agree that there might just be something in that watcher.

I don’t think they would welcome me on that religious blog either mate, the angels in my book each take a thread (both aboriginal and classical lore) and ride it back to the heavens after realising that we humans are a resilient lot, and that ultimately some of us will survive this western liberal neo philosophical depression. But then again I’m existentially an optimist…

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