New Column up at Real Money (05/13/05)


My latest Real Money column, "Risks
Continue to Outweigh Rewards
is up.

Here’s an excerpt:

Madness vs. Wisdom
Some market bulls have been
using the general gloomy conditions as a rationale to get long here, but this
is a mistake that reveals a flawed understanding of what it takes to be a
contrarian. I use many sentiment measures in my work, and the key to catching a
significant market turn is finding a very specific type of consensus that I do
not believe we have reached yet.

Allow me to explain. I keep two
books on my desk to remind me of this. The first is James Surowiecki’s “The
Wisdom of Crowds: Why the Many Are Smarter Than the Few and How Collective
Wisdom Shapes Business, Economies, Societies and Nations
.” This book
reminds investors that markets go higher when there are more buyers than
sellers, and they go lower when the situation is reversed. “Don’t fight the
tape” could be the book’s sub-title.

The second book is Charles
Mackay’s classic, “Extraordinary
Popular Delusions & the Madness of Crowds
.” It reminds us that you want
to go the other way when investors become an unthinking mob. When the crowd
loses its wisdom and starts suffering from irrational group think – and most importantly, when the sellers are
truly panicked –- that’s when the true contrarian steps up and places their

But it’ not easy to do, and
there are formidable obstacles to knowing exactly when that is occurring. I
simply don’t see that sort of mindless emotional outpouring at present.

Instead, in my conversations
with institutional players, I see they have slowly come to recognize that their
previous expectations for robust growth and modest inflation have been greatly
exaggerated. They have grudgingly come to recognize the situation is now
reversed: that growth is only modest and inflation is rather robust. It’s no
surprise that the markets’ prior trading range has failed, as the reality of
slower growth and higher inflation have come to be accepted by fund managers.
They think long term, and must be close to fully invested most of the time.
That makes them slower on the uptake than their hedge fund buddies. It also
means that when they get skittish, they simply buy less. Hence, the lack of
volume or upwards follow through in the markets.


Risks Continue to Outweigh Rewards, 5/13/2005 10:44 AM EDT

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