Vivek Kaul
I am writing this piece sometime in the middle of April 2014. The stock market in India has been on fire over the last one month, with the NSE Nifty and the BSE Sensex regularly touching new highs. Every time the market touches a new high, editors of newspapers/magazines/websites have to look for a new reason to explain the bull run.
Several reasons have been offered during the course of the last one month. First we were told that the stock market investors were betting on Narendra Modi becoming the Prime Minister. The numbers in this case didn’t really add up. The domestic institutional investors sold stocks worth Rs 13,130.77 crore during March 2014. Their selling continued in April as well. Till April 11, 2014, the domestic institutional investors had sold stocks worth Rs 3,728.06 crore. If these investors are really supporting Modi, then why are they selling out of the stock market?
Then we were told that the foreign investors were betting on Modi coming to power and setting the faltering Indian economy right. In this case, the numbers do add up. In March 2014, foreign institutional investors bought stocks worth Rs 25,376.45 crore. In April, the trend continued and by April 11, they had bought stocks worth Rs 3,658.21 crore.
But is the logic as simple as that? It is worth remembering here that the Western central banks have been running an “easy money” policy for a while now. The Federal Reserve of the United States, has been reducing the amount of money it has been printing since the beginning of the year. But at the same time it has reiterated time and again that short term interest rates will continue to be close to 0% in the near future.
Interestingly, the Fed repeated this in a statement released on March 19, 2014. The foreign institutional investors invested Rs 4,222.10 crore on March 21, 2014, in the Indian stock market. This is the highest amount they have invested on any single day, since the beginning of this year. So, are the foreign investors investing in India because they have faith in Modi? Or are they simply investing because “easy money” continues to be available to them at rock bottom interest rates? The stories appearing in the media haven’t got around to explaining that.
Another theory that went around briefly was that the stock market is rallying because India’s economic data had been improving. Inflation was down. Industrial output as measured by the index of industrial production had marginally improved. And the current account deficit had been brought under control. This theory lasted till the index of industrial production for the month of February 2014 was declared. Industrial output for the month was down 1.9%.
The conspiracy theorists also suggested that it was the black money of politicians coming back to India. They needed that money to fight elections. Well, if they needed that money, they would have sold their stock market holdings, and the stock market would have fallen. But that hasn’t really happened.
So what is happening here? As Ben Hunt writes in a newsletter titled Epsilon Theory and dated February 28, 2014 “Ants, bees, termites, and humans – the most successful species on the planet – are constantly signaling each other so that we can make sense of our world together. That’s the secret of our success as social animals.”
The point is that everybody loves a good story. We want coherent explanations of what is happening in the world around us. As Nassim Nicholas Taleb writes in The Black Swan—The Impact of the Highly Improbable “We love the tangible, the confirmation, the palpable, the real, the visible, the concrete, the known, the seen, the vivid, the visual, the social, the embedded, the emotionally laden, the salient, the stereotypical, the moving, the theatrical, the romanced, the cosmetic, the official…the lurid. Most of all we favour the narrated.”
And this is where the media comes in, which tries to give us convincing explanations of what is happening in the world around us. Whether the reason behind a market movement is the real reason or not, does not really matter, as long as it sounds sensible enough. Taleb gives an excellent example of the same in The Black Swan.
“One day in December 2003, when Saddam Hussein was captured, Bloomberg News flashed the following headline at 13:01: U.S. TREASURIES RISE, HUSSEIN CAPTURE MAY NOT CURB TERRORISM,” Taleb writes.
Basically, what Bloomberg was saying was that the capture of Hussein will not curb terrorism and hence, investors had been selling out of other investments and buying the safe US government bonds, thus pushing up the price.
Around half an hour later, Bloomberg had a different headline. As Taleb writes “At 13:31 they issued the next bulletin: U.S.TREASURIES FALL: HUSSEIN CAPTURE BOOSTS ALLURE OF RISKY ASSETS.”
What had happened was that during a period of half an hour the price of the US government bonds had fluctuated. First they had risen as investors had bought the bonds. In half an hour’s time some selling had happened and the prices were falling. Bloomberg now told its readers that prices were falling because investors were selling out of US government bonds and looking at other investments given that with the capture of Hussein, the world was a much safer place.
Hunt offers a similar example in his newsletter. On November 28, 2008, Barack Obama, who had just been elected the President of the United States, appointed Tim Geithner, the President of the Federal Reserve Bank of New York, as his Treasury Secretary. The S&P 500, one of America’s premier stock market indices, rallied by about 6% on that day and Geithner’s nomination was deemed to be the major reason behind the same. As Hunt writes “All of the talking heads on the Sunday talk shows that weekend referenced the amazing impact that Geithner had on US markets, and this “fact” was prominently discussed in his confirmation hearings. Clearly this was a man beloved by Wall Street, whose mere presence at the economic policy helm would soothe and support global markets. Yeah, right.”
Geithner’s nomination was good news, but was it big enough to drive up the stock market up by 6% in a single day? As Hunt explains “So long as Obama didn’t nominate a raving Marxist I think it would have been a (small) positive development in the context of the collapsing world of November 2008. Was the specific nomination of specifically Tim Geithner WHY markets were up so much on November 24th? Of course not.”
The moral of the story is that first things happen and then people go looking for reasons. Hunt calls it “the power of why”. As he writes “It is the Power of Why, and it has no inherent connection to any true causal connection or the way the world truly works. Maybe it’s all true. Probably it’s partially true. But it really doesn’t matter one way or another.”
What is true of the financial markets in particular is also true for the world at large in general. As Taleb puts it “It happens all the time: a cause is proposed to make your swallow the news and make matters more concrete. After a candidate’s defeat in an election, you will be supplied with the “cause” of the voters’ disgruntlement. Any conceivable cause can do. The media, however, go to great lengths to make the process “thorough” with their armies of fact-checkers. It is as if they wanted to be wrong with infinite precision.”
So what is the way out? Taleb has an excellent suggestion in his book Fooled By Randomness—The Hidden Role of Chance in Life and in the Markets “To be competent, a journalist should view matters like a historian, and play down the value of the information he is providing, such as by saying “Today the market went up, but this information is not too relevant as it emanates mostly from noise.””
But that is easier said than done.
The article originally appeared in the May 2014 issue of the Wealth Insight magazine
(Vivek Kaul is the author of the Easy Money trilogy. He can be reached at [email protected])