Tag: speculation

13 September 2011

The brutal face of supply and demand

Stock markets have been plummeting. The FTSE 100 index was 6055 on 7 July 2011; by 10 August, it was 17% lower at 5007. Since then it has risen as high as 5418, but by 13 September was down to 5092. Other stock markets have fared worse. The French index fell 30% between early July and September 13, and the German DAX index fell 32% over the same period.

These falls in share prices reflect demand and supply. Investors are worried about the future of the eurozone and the health of the European economy as Greek default looks more and more likely and as the debts of various other European countries, such as Portugal, Ireland and Spain, seem increasingly unsustainable in an environment of sluggish economic growth. They are also worried about high public-sector debt in the USA and the likelihood that global recovery will peter out.

The ‘bear’ market (falling share prices) reflects increased selling of shares and a lack of demand. Not only are investors worried about the global economy, they are also speculating that share prices will fall further, thereby compounding the falls (at least until the ‘bottom’ is reached).

But why have share prices fallen quite so much? And does it matter to the general public that this is happening? The following articles seek to answer these questions.

Articles
Shares tumble on fears over Greek default Guardian, Graeme Wearden (12/9/11)
European Factors-Shares set for steep fall on Greece worries Reuters (12/9/11)
Markets set for turmoil after G-7 letdown BusinessDay (South Africa), Mariam Isa (12/9/11)
What will happen if Greece defaults? The Conversation (Australia), Sam Wylie (12/9/11)
Germany and Greece flirt with mutual assured destruction The Telegraph, Ambrose Evans-Pritchard (11/9/11)
Market Swings Are Becoming New Standard New York Times, Louise Story and Graham Bowley (11/9/11)
The next bull market The Bull (Australia) (12/9/11)
Prepare For Recession And Bear Market Forbes, Sy Harding (9/9/11)
Eurozone crisis: What market turmoil means for you BBC News, Kevin Peachey (8/9/11)

Questions

What factors have led to the recent falls in stock market prices? Explain just why these factors have contributed to the falls.
What is likely to happen to stock market prices in the coming weeks? Why is it difficult to predict this?
What is meant by the efficient capital markets hypothesis? If markets were perfectly efficient, why would it be impossible to predict future movements in stock market prices? Why may stock markets not be perfectly efficient?
What factors determine stock market prices over the longer term?
How are share prices influenced by speculation? Distinguish between stabilising and destabilising speculation.
Explain the various ways in which members of the general public can be affected by share price falls. Are you affected in any way? Explain.
If Greece defaults, what will determine the resulting effect on stock markets?
To what extent does the stock market demonstrate the ‘brutal face of supply and demand’?

6 August 20116 August 2011

Down the big dipper again

Friday 5 August 2011 saw the end of a very bad fortnight for stock markets around the world. In Japan the Nikkei 225 had fallen by 8.2%, in the USA the Dow Jones had fallen by 9.8%, in the UK the FTSE 100 was down 11.6% and in Germany the Dax was down 14.9%. In the first five days of August alone, £148 billion had been wiped off the value of the shares of the FTSE 100 companies and $2.5 trillion off the value of shares worldwide.

But why had this happened and what are likely to be the consequences?

The falls have been caused by the growing concerns of investors about the health of the global economy and the global financial system. There are worries that the European leaders at their summit on 21 July did not do enough to prevent the default of large countries such as Spain and Italy. There are concerns that the US political system, following the squabbling in Congress over raising the sovereign debt ceiling for the country, may not be up to dealing with the country’s huge debts. Indeed, the rating agency, Standard & Poor’s, downgraded the USA’s credit rating from AAA to AA+. This is the first time that the USA has not had top rating.

Then there are worries about the general slowing down of the world economy and how this will compound the problem of sovereign debt as it hits tax revenues and makes it harder to reduce social security payments. Underlying all this is the fear that the problem of indebtedness that contributed to the banking crisis of 2007/8 has not gone away; it has simply been transferred from banks to governments. As Robert Peston states in his article, linked to below:

The overall volume of indebtedness in the economy is therefore still with us – although it has been shuffled from financial sector to public sector.

And if you took the view four years ago that the quantum of debt in the system was unsustainably large, then you would argue that by propping up the banks, the day of reckoning was being postponed, not cancelled.

… just like the awakening in 2007 to the idea that many of the housing loans and associated financial products were worthless, so there is a growing fear that a number of financially overstretched governments, especially in the eurozone, will not be able to repay their debts in full.

Which brings us to the consequences. Key to the answer is confidence. If governments can reassure markets over the coming days and weeks that they have credible policies to support highly indebted countries in the short term and to sustain demand in the global economy (e.g. through further quantitative easing in the USA (QE3)); and if they can also reassure markets that they have tough and credible policies to reduce their debts over the longer term, then confidence may return. But it will not be an easy task to get the balance right between sustaining recovery in the short term and fiscal retrenchment over the long term. Meanwhile consumers are likely to become even more cautious about spending – hardly the recipe for recovery.

Videos
Markets turmoil: What you need to know BBC News, Jonty Bloom (5/8/11)
Turmoil on stock markets persists as share prices fall BBC News, Robert Peston (5/8/11)
Global stock market crash – video analysis Guardian, Larry Elliott and Cameron Robertson (5/8/11)
S&P downgrade US AAA credit rating BBC News, Marcus George (6/8/11)
U.S. loses AAA credit rating Reuters, Paul Chapman (6/8/11)
U.S. loses AAA credit rating from S&P CNN (5/8/11)
US loses AAA rating ITN (6/8/11)
Shares slump amid euro fears Channel 4 News, Faisal Islam (4/8/11)
What triggered the turmoil? Financial Times, Sarah O’Connor and Edward Hadas (5/8/11)
Fears eurozone woes will spread BBC News, Stephanie Flanders (5/8/11)

Articles
FTSE 100 tumbles in worst week since height of the crisis The Telegraph, Richard Blackden (5/8/11)
Global recession fears as stock markets tumble to nine-month low The Telegraph, Alistair Osborne (3/8/11)
Global markets on the brink of crisis Guardian, Larry Elliott (5/8/11)
A week of financial turmoil: interactive Guardian, Nick Fletcher, Paddy Allen and James Ball (5/8/11)
Turmoil on stock markets persists BBC News (5/8/11)
Bank worries bring echoes of 2008 BBC News, Stephanie Flanders (5/8/11)
The origins of today’s market mayhem BBC News, Robert Peston (5/8/11)
Time for a double dip? The Economist (6/8/11)
Rearranging the deckchairs The Economist (6/8/11)
High hopes, low returns The Economist (4/8/11)
The debt-ceiling deal: No thanks to anyone The Economist (6/8/11)
Six years into a lost decade The Economist (6/8/11)
Debt crisis Q&A: what you need to know about Standard & Poor’s credit rating The Telegraph, Richard Tyler (6/8/11)
U.S. Will Roll Out QE3 After S&P Rating Cut, Li Daokui Says Bloomberg (6/8/11)
China flays U.S. over credit rating downgrade Reuters, Walter Brandimarte and Gavin Jones (6/8/11)
US credit rating downgraded to AA+ by Standard & Poor’s Guardian, Larry Elliott, Jill Treanor and Dominic Rushe (5/8/11)
Reaction to the US credit rating downgrade Guardian (6/8/11)
Market turmoil and the economics of self-harm Guardian, Mark Weisbrot (5/8/11)
Week ahead: Markets will sort through credit downgrade Moneycontrol (6/8/11)

S&P Statement
S&P statement on lowering US long-term debt to AA+ Guardian (6/8/11)

Questions

Why have share prices been falling?
Does the fall reflect ‘rational’ behaviour on the part of investors? Explain.
Why does ‘overshooting’ sometimes occur in share price movements?
Why has the USA’s credit rating been downgraded by Standard & Poor’s? What are the likely implications for the USA and the global economy of this downgrading?
How is the downgrading likely to affect the return on (a) existing US government bonds; (b) new US government bonds?
Why might worries about the strength of the global recovery jeopardise that recovery?
To what extent has the debt problem simply been transferred from banks to governments? What should governments do about it in the short term?

23 July 20112 April 2019

Rescuing Greece? Rescuing the euro?

With a mounting crisis in the eurozone, heads of government met in an emergency meeting in Brussels on 21 July.

The task was a massive one: how to tackle Greece’s growing debt crisis and stave off default; how to protect other highly indebted countries which have already had to seek emergency bailouts, namely Ireland and Portugal, from falling market confidence and thus rising interest rates, thereby making their debts harder to service; how to prevent speculative pressures extending like a contagion to other highly indebted countries, such as Spain and Italy; how to prevent speculation against the euro and even to prevent its break-up; how to reduce the size of budget deficits at a time of low growth without jeopardising that growth. A problem is that Greece has already adopted the required austerity measures for it to receive a second bailout from the EU agreed at the end of June, and yet its debt burden is likely to rise as growth remains negative.

Eurozone leaders recognised that the stakes were high. Failure could see contagion spread, interest rates soar and perhaps one or more countries leaving the euro. No agreement was not an option. As it turned out, the agreement was more comprehensive than most commentators had expected. Markets reacted positively. Stock markets in Europe and around the world rose and the euro strengthened.

So what was the agreement? Has it solved the Greek and eurozone crises? Will it prevent contagion? Or has it merely put the problem on hold for the time being? Will more fundamental measures have to be put in place, such as much fuller fiscal union, if the eurozone is to function as an effective single currency area? The following is a selection of the hundreds of articles worldwide that have reported on the summit and the agreement.

Articles

Greece thrown lifeline by eurozone leaders BBC News, Chris Morris (22/7/11)
A Marshall plan with ‘haircuts’: The draft agreement Guardian, Chris Morris (21/7/11)
Banks forced to share pain of bailout for Greece Independent, Sean O’Grady and Vanessa Mock (22/7/11)
EU leaders agree €109bn Greek bail-out Financial Times, Peter Spiegel, Quentin Peel, Patrick Jenkins and Richard Milne (21/7/11)
Greece to default as eurozone agrees €159bn bailout The Telegraph, Louise Armitstead and Bruno Waterfield (21/7/11)
Europe steps up to the plate The Telegraph, Ambrose Evans-Pritchard (21/7/11)
Greek bailout boosts global markets Guardian, Julia Kollewe, Ian Traynor and Lisa O’Carroll (22/7/11)
Greek bailout deal: What the experts say Guardian (22/7/11)
Bailed out – again. Eurozone throws Greece €109bn lifeline Guardian, Ian Traynor (22/7/11)
New package for Greece must match last year’s if it is to stave off default Sydney Morning Herald, Malcolm Maiden (22/7/11)
Russian or Belgian roulette? The Economist, Charlemagne’s notebook (21/7/11)
Saving the euro: A bit of breathing space The Economist, Charlemagne’s notebook (22/7/11)
Europe’s ‘safe haven’: corporate bonds Financial Times, Demetrio Salorio (21/7/11)
Summit that saved the euro? Financial Times, John Authers and Vincent Boland (21/7/11)
Greece aid package boosts stock markets BBC News (22/7/11)
Q&A: Greek debt crisis BBC News (22/7/11)
Timeline: The unfolding eurozone crisis BBC News (22/7/11)
Eurozone summit: It may be a solution, but doubts remain Guardian, Larry Elliott (21/7/11)
German taxpayers are being asked to socialise Europe’s debts The Telegraph, Jeremy Warner (22/7/11)
The eurozone is not a nation state Financial Times blogs, Gavyn Davies (20/7/11)
One step back from the abyss BBC News blogs, Stephanie Flanders (22/7/11)
For long-term gain, the EU will have to share the pain Independent, Sean O’Grady (22/7/11)
Greek debt deal ‘not the last word’ BBC Today Progrgamme, Stephanie Flanders and Sir John Gieve (22/7/11)

Questions

Outline the measures agreed at the eurozone heads of government summit on 21 July.
Explain what is meant by a ‘haircut’ in the context of debts. What types of haircut were agreed at the summit?
How big a reduction in Greece’s debt stock will result from the deal? Why may it not be enough?
Explain how the European Financial Stability Facility (ESFS) works? How will this change as a result of the agreement?
What vulnerabilities remain in the eurozone?
What are the arguments for closer fiscal union in the eurozone? Is more required than merely a return to the Stability and Growth Pact?

12 May 201112 May 2011

Riding the commodities Big Dipper

Anyone investing in commodities over the past few weeks will have been in for a bumpy ride. During the first part of 2011, commodity prices have soared (see A perfect storm brewing?). This has fuelled inflation and has caused the Bank of England to revise upwards its forecast for inflation (see Busy doing nothing see also Prospects for Inflation).

But then in the first week of May, commodity prices plumetted. On the 5 May, oil prices fell by 7.9% – their largest daily amount since January 2009. Between 28 April and 6 May silver prices fell from $48.35 per ounce to just over $33.60 per ounce – a fall of over 30%. And it was the same with many other commodities – metals, minerals, agricultural raw materials and foodstuffs.

Many financial institutions, companies and individuals speculate in commodities, hoping to make money buy buying at a low price and selling at a high price. When successful, speculators can make large percentage gains in a short period of time. But they can also lose by getting their predictions wrong. In uncertain times, speculation can be destabilising, exaggerating price rises and falls as speculators ‘jump on the bandwagon’, seeing price changes as signifying a trend. In more stable times, speculation can even out price changes as speculators buy when prices are temporarily low and sell when they are temporarily high.

Times are uncertain at present. Confidence fluctuates over the strength of the world recovery. On days of good economic news, demand for commodities rises as people believe that a growing world economy will drive up the demand for commodities and hence their prices. On days of bad economic news, the price of commodities can fall. The point is that when undertainty is great, commodity prices can fluctuates wildly.

Articles
Commodities plunge: Blip or turning point? BBC News, Laurence Knight (6/5/11)
Commodity hedge fund loses $400m in oil slide Financial Times, Sam Jones (8/5/11)
Commodities: ‘epic rout’ or the new normal? BBC News blogs: Stephanomics, Stephanie Flanders (6/5/11)
Commodities Still a Bubble – But Prices May Continue to Rise Seeking Alpha, ChartProphet (9/5/11)
When a sell-off is good news The Economist, Buttonwood (6/5/11)
Gilt-edged argument The Economist, Buttonwood (28/4/11)
Commodities: What volatility means for your portfolio Reuters blogs: Prism Money (9/5/11)
Gold, silver rise again on debt, inflation concerns Reuters, Frank Tang (10/5/11)
Commodities After The Crash, No Way But Up The Market Oracle, Andrew McKillop (9/5/11)
Outlook 2011:Three Dominant Factors Will Impact Precious Metals in 2011 GoldSeek (9/5/11)
Energy bills set to rise sharply next winter, Centrica warn Guardian, Graeme Wearden (9/5/11)
Dollar triggered commodities ‘flash crash’, not Bin Laden The Telegraph, Garry White, and Rowena Mason (9/5/11)
The outlook for commodity prices Live Mint@The Wall Steet Journal, Manas Chakravarty (11/5/11)
Three ways to play the next commodities bubble Market Watch, Keith Fitz-Gerald (11/5/11)

Data
Commodity Prices Index Mundi
Commodities Financial Times
Commodities BBC Market Data

Questions

Why did commodity prices fall so dramatically in early May, only to rise again rapidly afterwards?
Why do commodity prices fluctuate more than house prices?
What is the relevance of price elasticity of demand and supply in explaining the volatility of commodity prices?
Under what circumstances is speculation likely to be (a) stabilising; (b) destabilising?
To what extent are rising commodity prices (a) the cause of and (b) the effect of world inflation?
If commodity prices go on rising every year, will inflation go on rising? Explain.

26 April 201129 April 2011

Precious metals getting even more precious

In the past few weeks, the prices of gold and silver have been soaring and have hit all-time (nominal) highs. Over the past 12 months, gold has risen by 31%, while silver has risen by 149% and 64% since the start of February. Part of this reflects the general rise in commodity prices (see also). Oil is trading at around $125 per barrel, up 43% on a year ago; wheat is up 66%, maize by 114%, coffee (Arabica) by 118% and cotton by 122%.

Part of the reason for the rise in the price of precious metals, however, has been the weakness of the dollar. In such times, gold and silver are often seen as a ‘safe haven’ for investors.

So why have commodity prices been rising and why has the dollar been falling? What is likely to happen to the prices of gold and silver in the coming weeks and months? Is their meteoric rise set to continue? Will the ratio of the gold price to the silver price continue to fall? The following articles investigate.

Articles
Gold and silver prices jump to new record highs BBC News (25/4/11)
Gold rises 7% in April as US dollar continues to weaken BBC News (29/4/11)
Gold and silver set new highs after S&P move Financial Times, Jack Farchy (22/4/11)
Real Interest Rates Explain the Gold Price Perfectly…Too Perfectly? The Market Oracle, Andrew Butter (25/4/11)
Silver, platinum to outshine gold Toronto Sun, Sharon Singleton (25/4/11)
Gold Bugs Beware Of Fed Extermination Forbes blogs: Great Speculations, Mark Sunshine (25/4/11)
Shock and Au: Hedging Against Fear EconomyWatch, Alice Briggs (26/4/11)
Keeping an Eye on the Gold/Silver Ratio Seeking Alpha, Evariste Lefeuvre (25/4/11)

Data
Commodity Prices Index Mundi
Commodities Financial Times
Commodities BBC Market Data

Questions

Why have the prices of gold and silver risen so much recently?
Why has silver risen more than gold?
Why may higher rates of world inflation make investors turn to precious metals for investment?
How are future decisions by the Fed likely to affect the price of gold?
According to the efficient capital markets theory (strong version), the current price of a commodity should already reflect all knowable factors that are likely to affect the price? Does this mean that speculative buying (or selling) is pointless?
How is the price elasticity of supply of silver and gold relevant in explaining the magnitude of their price movements?