Wednesday, June 10, 2009

Of Pitchforks and Torches

For those that follow the socionomic principle that social mood is causal, rather than consequential of social action (personified by the buying and selling of stock, willingness to take credit risk, consumer time preferences, etc), some of this weeks headlines should be of interest.

It is often found that financial crises and the uncovering of fraud tend to often coincide. This does not mean, however, that the fraud in question is some shocking revelation, only discovered by the work of a heroic detective. To the contrary. More often than not, the specific fraud was well known for years, even decades, before it became an issue of public outrage. So it is not necessarily the precise nature of whatever fraud has been exposed that is of concern to us. Rather it is the social reaction to it that provides clues to the overall state of social mood, and therefore to potential repercussions this may have for the financial markets.

Social mood was ambiguous to fraud in our financial markets in recent decades. Even the high-profile cases we are all familiar with (Enron, WorldCom, Barings Bank, etc) were mere blips on the radar. The stock market barely reacted. People didn't really care. And unless they were holders of those particular companies' stock, most people's net worth was higher 6 months later. Unemployment was low, wages were rising and they could obtain a mortgage by fogging a mirror. They felt better off. So why complain?

Such is not the case today. Even with a 45% rally in the stock market off the March lows, the average person is still invariably worse off than they were six months ago. And much worse off than they were a year ago. Those who are lucky enough to still have a job see their wages falling or overtime being slashed. Their home's market value is still falling. And the only saving grace of last year - falling mortgage rates and gasoline prices - are now rising again. They are being squeezed at both ends.

So it is only natural that closer scrutiny is paid to those who can be blamed for their plight.

Ron Paul's Federal Reserve Transparency act (HR 1207) appears to be one such manifestation of the common anger. Of course, the Federal Reserve's meddling in the economy is nothing new. Dr. Paul has been warning of its interventionist economic policies since the early 70s. Entire economic schools of thought have railed against the Fed since its inception in 1913, arguing that their interventionism magnifies the business cycle, rather than smoothes it. So why is it that now, all of a sudden this bill has obtained 213 cosponsors stretching across both parties? Democratic Party skepticism of central banking is showing its first signs of life since the days of Grover Cleveland. There was no organized public outrage against the Fed after the collapse, nor after the S&L crisis. So what has changed? Only the social willingness to go after those who can be blamed for causing the bubble.

Another revelation we have learned of is that former CEO of subprime lender Countrywide Financial, Angelo Mozilo is being charged with fraud by the SEC for insider trading and failure to disclose pertinent information to shareholders. Mozilo sold $139 million worth of stock in 2006 and 2007 while it was obvious that the subprime business model was kaput. Nevertheless, Mozilo and Countrywide continued using company profits for share buybacks - the same stock he was selling. Again, this is hardly surprising. Share buyback announcements were almost a daily occurrence in early 2007 and many of the buybacks coincided with executive exercise of stock options or outright dumping of shares. This was pointed out on numerous occasions by many market analysts and shareholder advocacy groups. Yet the cries fell on deaf ears. Until now. A pertinent snip from a MarketWatch article dated June 5th reads that the defense lawyer "...also accused the SEC of bringing the case in response to political pressure to repair its reputation, which has taken hits from the agency's failure to detect the Bernard Madoff fraud." (emphasis added)

Political motives for covering one's own tracks will likely prove to be fuel for the insatiable fire of public rage. Inquiries and fraud charges like these will in turn reveal more fraud and negligence by regulators. In the last week we have learned that another Countrywide executive, John McMurray tried to blow the whistle on the company's potential systemic risk at a conference hosted by the Federal Reserve Bank of Chicago in 2006. He was promptly ignored.

On April 15th, however, we received perhaps our most telling bit of evidence on the state of social mood. More than a million Americans participated in tax day TEA (Taxed Enough Already) Parties, expressing various grievances they have with their government's handling of the credit crisis. The second round of these events will be held on July 4th and are being organized in over 1100 US cities. Will the calls for political action add to the positive feedback cycle of seeking out scapegoats which upon new revelations further intensify public anger, calling for more inquiries, etc...?

It is more than a slight possibility that the countertrend wave of investor optimism persists for longer than most bears are able to stand, while social pessimism builds in the background. But my suspicion is that as the summer wears on, social mood will prove too much for the stock market to handle, and opportunistic traders will take their profits at the first sniff of a turnaround.

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mike.montchalin said...

OK, you convinced me that social mood is causal; that fraudsters weren't prosecuted until the social mood changed.

Where do you think the social mood is in regards to a regulator, or authority, versus the chaos of the market?

I mean, there is a major school of thought out there that has faith in regulation, in the proper authorities and the regulation of markets.

There is another school with faith in individual decision making and markets.

Where do you think the social mood is going on this question? Is Obama in step, or out of step?

Dacian said...

Related to this social mood again ;)

Matt, you wrote in your last technical update the following.

"This goes to show once again that it is not the news that matters, but rather the reaction to it that counts."

I mean the reaction is induced by that news; it is possible that we wouldn't have the same type of reaction in the absence the news or if the news was completely different. This shows that the news itself has a big influence on the reaction hence the action.

But what do you exactly mean by "news don't matter"? I hope we agree that there is no such a thing as the "news themselves are pressing the sell/buy stocks button" :), but after interpreting the news, operators take decisions.

I saw this on the EWI site today

"We are currently approaching another dangerous juncture in humanity’s fractal growth pattern. The roots run back to the year 2000, when the world’s stock markets peaked, marking the beginning of a large-degree negative trend in social mood and a substantial upturn in highly stressful events. Stress ... increases the risk of disease."

It basically goes to explain that the pandemics are the result of social mood. This is really difficult to proove, and even if I'm not an expert at all, natural reign and virus development doesn't care that much about our mood. Imo, this is pure speculation. What do u think?


Anonymous said...

Matt you must be a ball at parties.

Matt Stiles said...


I'm not sure I can answer that question objectively. You know where I stand. However, I thought that the outright rejection of "pro-interventionists" in this week's EU election was a positive sign. It appears, for the few that bothered to show up, that Europeans are more inclined to blame their governments than "greedy capitalists" for the crisis.


People do not act on the news itself, but rather how they choose to interpret it. If they're feeling optimistic, they'll pick out a certain component of a news release that fits their predetermined bias. Or vice versa.

Back when I was doing hyperactive prop trading, I would catch myself falling for this. I would go into "numbers" with an idea of whether I wanted to buy or sell. Where those ideas came from, I have no idea. But I can be sure that others had the same ones. When the number was released, I would typically act on that bias - oftentimes without even knowing what the number was! I would see the market confirm my bias in the first seconds and slam the buy or sell keys.

As to the pandemic thing, Kevin Depew actually referenced a recent column in The Socionomist on that very topic:

Have you not noticed that depressed people are typically more vulnerable to common colds and flus? I'm pretty sure this is well documented rather than "speculative". But I'm no doctor...


I typically prefer staying on my feet rather than rolling around... But I have been known to succumb to the latter on occasion.

Namke von Federlein said...

Hi Matt;

A personal example. I lived in a town and I would walk to get my groceries. I bought my groceries at least 50 times. Then, one day, I needed to mail a physical letter. I needed to put a letter into a physical mail box. But I couldn't think of a single mail box.

So, I head out to buy my groceries (letter in my pocket). I figured : there must be a mailbox around here somewhere.

Indeed there was. It was actually a double mailbox in bright red against a grey background across the road along the way.

I had never noticed that mailbox because I had never needed one. And I had a good laugh at myself when I stuck the letter into the mailbox.

You perceive what you need.

Make sure that what you need is beneficial to all living beings?

And in case nobody has noticed : people do business with people. The "news" is nothing more than an ad. Either you are in or you are out?

At least : the recent - get this - reported (!!) insider trading shows 512 million being sold by company directors and 12 million being bought by company directors. So? Well, the markets are up??

I really love this blog post today, Matt. I've said for years that all business is about emotion. People will pay $ 140 to see a comedian for 2 hours. They will get upset if they pay $ 2 for a plate that they could have bought for $ 1 somewhere else.

About the pandemic : pigs are genetically so close to humans that scientists have studied using the hearts of pigs for human transplants. The real problem is that an evil scientist that gets his hands on the strain can tweak it. In case you think this is about evil geniuses - university students are taught how to do this.

So, end game. First one to Queen a pawn wins.

You know, a couple of $ 1000 deep shorts on GSM could (perhaps) destroy the company?

Here is what I know about emotions - they are just trained responses. In other words, let's say somebody called me a nigger. The mere sound causes my body to create a biological response that is pain. My adrenaline kicks up, my rational facilities stop working and the reptilian base of my brain takes over.

Unbelievable if you think about it. All that because of a sound grunted by another humanoid?

Would I have that response if someone called me a kdoidnaodo? Not even a little bit.

So, I think that you are right on the mark with this blog post. The average person has no idea that emotions (at their root) are simply trained (ie subjective) biological patterns that can be changed. The average person is a trained robot. And proud of it! Insisting on it! Ready to fight for it!

And they are pissed off as hell right now. Their money gone, their pensions gone, the banks stealing the money of their kids and their grandchildren, the environment a mess (despite catastrophic implications of inaction), scams, cell phone and Internet spying, video cameras, homeless war vets (25% of the homeless in the USA are war vets!) - the list is endless now.

Talk about social mood...

Thanks for a great blog post today.

Davidicus said...

Matt - are you still in the deflationist?

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