Markets This Week |
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Q: Behavioral finance is becoming recognized
in mainstream investing. Are there any models for understanding
investors behavior?
A: A very useful behavioral model that helps us understand the
process of investment decisions was developed by Bailard, Biehl
& Kaiser (BB&K model in Chart 1). The model classifies
investors according to two personality traits: the method of action
(careful or impetuous) and level of confidence (confident or anxious).
Based on these personality traits, the BB&K model divides
investors into 5 groups:
- Individualist: careful, confident and often takes a do-it-yourself
approach
- Adventurer: volatile, entrepreneurial and strong-willed
- Celebrity: follower of the latest investment fad
- Guardian: highly risk averse and wealth preserver
- Straight arrow: shares the characteristics of all the above
equally
Source: Bailard, Biehl & Kaiser
Q: According to the above described
BB&K model, which type of investors are the most successful?
A) Individualist
B) Adventurer
C) Celebrity
D) Guardian
E) Straight arrow
Answer to the Quiz at the bottom of the document
- The markets this week were very volatile and mostly down
(Chart 2 – 3) as equities were trying to find a new
support level
- The Toronto market suffered heavy losses especially in
the resource sector (Chart 4 - 5). We believe the current
situation resembles, to some degree, the Nortel bubble of
2000. The excitement about the resource sector will end (it
is not a question of if but when) and we are concerned about
the sustainability of the high prices
- The Japanese economy (3rd largest in the world, after the
US and the EU) is finally picking up steam. Japan's economy
has been weak since the recession of the early 1990's, however,
the new economic data confirms a broad-based recovery
- Nortel will likely pay $2.4 Billion in lawsuits stemming
from accounting fraud. A portion of the money will come from
issuing new shares (more shares in the market), which is not
a pretty picture for the current shareholders
- The U.S. president unveiled a new budget for 2007 that
includes record defence spending and cuts to Medicare. The
sustainability of the US federal deficit and out of control
debt continues to be questioned by a number of experts
- We fail to understand the logic behind republishing controversial
cartoons satirizing the Prophet Muhammad. Freedom of speech
is a very noble idea but one should also take into account
the widespread riots and loss of human lives. Religious beliefs
are very powerful emotions and we believe editors who republish
the cartoons are very irresponsible
- Although many hedge fund strategies may be sound, the hedge
fund craze has peaked (there are currently 8,000 hedge funds
holding $1 Trillion). While their growth is expected to be
strong in Asia, the US and European markets are showing signs
of saturation
- The US Securities and Exchange Commission (SEC) has enacted
tighter requirements for reporting executive pay. The
Economist magazine reports that in 1980, the average
pay for the CEOs of America's biggest companies was about
40 times that of the average production worker. In 1990,
it was about 85 times. Currently this ratio is thought to
be about 400. Are the CEOs getting wiser and more capable?
10 Years and Last
10 Days
 
Charts courtesy of StockCharts.com
10 Years and Last 10 Days
Charts courtesy of StockCharts.com
(see
explanation)
We continue to believe that equities
have formed an important top in the middle of January 2006. The
situation resembles to a great degree August 2005 in three respects:
- Chart 6 - divergence between prices
(went up) and advancing/declining line (flat)
- Chart 7 - high degree of optimism
by small investors as represented by AAII
- Chart 8 - confidence exhibited by
equity option buyers who tend to reliably wrong at important
market junctures
According to the above indicators,
there is a high probability that equities are currently going
through a correction phase (meaning their prices are falling).
Charts courtesy of StockCharts.com and
DecisionPoint.com
A is correct. The best investment results
tend to be realized by an Individualist, one who exhibits analytical
behavior, confidence and has a good eye for value.
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