Trading, fast and slow

How to make sense of the situation? I put it to you that there are two conflicting ways of seeing it.

Here’s the first: Surely you’re worried. I get it. But you’re not alone. Do you think there is something you worry about that you’re alone in worrying about? That’s hardly the case. There are millions of people around the world worrying about the same things, and they invest their money in the biggest opinion poll there is – the stock market. By doing so, they have already made the market discount the bad news. They see what you see, and more. The market adjusts fast.

Here's the other angle: In financial research, there’s something called “post-earnings announcement drift”. The idea is that stock prices adjust slowly to earnings surprises. If it’s good news, the stock price keeps rising for some time after the announcement. Hence, research clearly says that no, the stock market does not discount news immediately. In the present situation, certainly more complex than earnings announcements, there is all the more reason to believe that it’s not immediately digested. The market may then adjust more slowly.

A further complication is we don’t really know what is happening. There may be some rationale for increased US tariffs, given the size of its economy and the large budget deficit, but the present plan bears little indication of having been hatched through the patient, analytical deliberation that Nobel Prize winner Daniel Kahneman calls System 2 thinking. Furthermore, it’s by no means a given that this will be the end result, given the strong opposition even in Republican ranks and of course foreign countermeasures yet to be announced.

It’s been said that the stock market forms the only real opposition to Trump at this point, given that he controls both houses of the Congress. If so, the bad news may again be the best shot at good news we may get right now: The steep decline in stock prices on 3 April may indeed push the final result towards something far less intimating.

The problem is we really know very little. In the short run, I wouldn’t try to predict the course of the stock market unless you held me at gun point. In the longer run, though, the stock market is far more predictable. As company values accumulate in good companies, better run than many a government, their stock prices will eventually follow. And, as many investors have learned in the past, it may just happen sooner than you think – or have time to react.