The Psychology of the Stock Market

Dan Celia
Posted: Apr 05, 2016 12:01 AM
The Psychology of the Stock Market

How many unemployed psychoanalysts, psychiatrists or psychologists do you know? Not many. I think this is because the mind is so complex. It is difficult to wrap our minds around something that is not black and white—a process that can involve many years of analysis to figure out the deep-rooted problems. Something like the world of the stock market!

The stock market right now is driven by psychology—the Fed’s efforts to bring health to the economy using manipulative techniques designed to create a “wealth effect” rather than working on the deeper rooted problems. The market has been driven by psychology since 2010, and I don’t see any change in sight until the house of cards finally comes tumbling down. We saw it last week. Janet Yellen’s words sounded a little dovish when she used the phrase “‘gradually’ raising rates.” With those words, the markets, in fewer than 10 minutes, took a 100-point swing. Understand this—the fundamentals of the economy did not get better in 10 minutes.

The economy continues to be largely forged by central bankers. Everything good that has happened in markets has been created by central bankers around the globe. Almost a year ago, negative interest rates began in Europe, and the number of countries with negative interest rates continues to increase. Has it worked for them? No. It has hurt the economy and banking system rather than stimulating it. Have we learned anything? Apparently not. Out of desperation, we continue to drive markets with false positives and smoke and mirrors, trying to give the illusion that the underlying fundamentals of the economy are strong. Psychological manipulation?

Why can’t we see past those contrived numbers? We expect history to repeat itself. For a hundred years when the stock market was going up, it generally meant things were going well in the economy. People had more discretionary income. Wages increased every year. Getting a job was usually not difficult; people could demand higher wages or find a similar job elsewhere that paid more. There was a time when factory workers sent their kids to college. Sometimes jobs outnumbered workers. As the economy grew and fundamentals became sound, company bottom lines did better and their stock prices went up. When stock prices went up, we bought more stock, boosting the prices even higher.

But that’s history. That is not happening today. Central banks, however, continue to believe that businesses and investors will eventually buy into this strange psychology and they will participate in the economy. Really, central bankers? You still believe that?

The current manipulation of numbers reminds me of some churches. Desperate to increase numbers, they set aside the biblical foundation for a church—equipping members for the work of the ministry—and offer programs they feel will be appealing. Often the techniques are not much more than ways to entertain. The attendance numbers may grow but they are not an accurate measure of the health of the church or the spiritual growth of its members. That is similar to what is happening in our economy. The Feds manipulate the numbers to make us think all is good—but those numbers are not an accurate measure of the health of the economy. As a matter of fact, they have little to do with the economy. Just hoping for a good psychological outcome.

The Fed’s ploy of creating a wealth effect was successful for many post-recession economies—but not this time. In 2009, even before quantitative easing began, I said it would not work because of the psychological impact this recession was having. I pointed out that Baby Boomers were holding most of the money in this economy. Baby Boomers were not going to get back in the market after their IRAs crashed and then came back up again—and again—four times (five for some). They would not take that risk again so close to retirement. And that is exactly what has happened.

We have entered the world of hoarders and conservative savers—people who are deleveraging—with an economy that depends on spending and debt, on spending discretionary income instead of saving it. And now we cannot even create discretionary income through cheap gasoline because the money saved is being devoured by out-of-pocket medical expenses and higher insurance premiums. Yet, central bankers continue trying to psychologically impact the economy—when all they are accomplishing is nudging the false positives in the markets a bit higher.

I don’t think the Fed’s ruse will stop before the house of cards comes tumbling down—until the deflation is so embedded throughout our economy that we have lost our ability to thrive or create any prosperity. Only then will everyone finally realize that a 2.2 percent GDP growth is not really growth at all, especially with a labor participation rate of the 1970s.

We must understand that the Fed is still using false manipulation in an attempt to create a wealth effect. But nothing will work until significant changes take place in the real underlying fundamentals of the economy. And that cannot happen until central bankers finally allow the chips to fall where they should.

Yes, it will get ugly. Yes, it could be painful. But without some amazing growth, amazing government fiscal policies, an amazing ability to create an environment where companies can truly thrive and at least a 21st century labor participation rate, we are not likely to see real recovery until we see a lot more pain.