Is There Actually A Lack Of Awareness Of What’s Really Going On In The Markets?

I’m sure many visitors to my site probably think I’m being facetious or just plain cynical when I make note of the ignorance of many equity traders and investors.

But I’m not. I actually believe that a lot of these guys (and gals), many of whom are responsible for managing millions or billions of dollars of other people’s money, are absolutely clueless about the economy and the world of finance.

In reality, a lot of them have used their one and only talent, sales, to propel themselves into positions that require genuine knowledge and experience — which they definitely don’t have.

That said, I don’t think that a lack of intelligence precludes people from being phenomenal traders. One of the best speculators I ever met was only able to carry on a conversation about two things: sports and the opposite sex. But he knew how to read the tape — and the crowd. And he knew how to control his emotions (a very rare talent, indeed)

Regardless, the following anecdote — highlighted in a post by Yves Smith at Naked Capitalism, “Stocks Rally on Plan for Government Equity Infusions, Continued Pursuit of Evil Shorts,” — provides a scarily apt description of the individuals who seem to hold great sway over the stock market nowadays.

Perhaps the real reason for the reaction was indirectly revealed in an e-mail message from hedge fund manager Scott, who was mystified at the rally of two days ago and is no doubt even more perplexed today, and saw this anecdote as providing a partial answer:

{An independent analyst} was asked to speak to a slew of {big firm you’ve all heard of] financial advisor types, more or less retail guys. I have no clue about the kinds of assets they control, but they certainly work out of a nice building in the financial district, and I imagine they all have nice suits and well-heeled clients.

And {the analyst] (who speaks on a daily basis with 4 or 5 of the most talented, sophisticated investors in the country, and somehow got thrown into that mix) said he basically just started asking these guys questions about, for example, what Lehman (LEHMQ.PK) and AIG (AIG) meant to the world’s financial system, and what their failures might portend. And they were clueless about the ramifications of all of this.

I‘ve been operating on the assumption that it was just laziness or complacency about risk that kept markets elevated. And now I’m wondering if I need to rethink that, and ask if there’s actually a total lack of awareness of what’s going on, which would obviously change the way you’d think about market pricing and how the market reacts to events.

In any event, my thoughts on today revolved around the fact that AIG was really a binary event—rescue or bankruptcy. The odds in favor of rescue far outweighed those of bankruptcy—I didn’t see how the Fed could let it fail. So call that 80-20, or 90-10, somewhere in that range. But against those odds, it seemed to me that the upside-downside weighed heavily on the side of caution. AIG rescued, 3-5% upside. AIG BK, 10% downside, before the real world ramifications started to seep into the picture. So the fact that the market did so well, with that big unknown hanging over its head, said to me that we are very far from a bottom here. But I thought it was merely complacency about risk that had to be overcome, and now I’m beginning to think that recognition of risk has not even really reared its head to date, astonishing as that thought seems.

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