Time was when former Fed chairman Alan Greenspan worried about the markets. He warned of irrational exuberance, and then the wild rises of the late’ 90s would sometimes reverse, while his thoughts were digested. Then, after a day or two, sometimes after a few hours, it was business as usual, and the party atmosphere continued.
But, it appears Mr Greenspan became a convert to the cause; his warnings of doom became less frequent, and, as the phrase, “it’s a new paradigm now” was used more and more to explain it all, Mr Greenspan said little to contradict the optimism. Meanwhile, others, argued that the internet, and low rate of interest had created a new environment in which higher share prices were justified.
Of course the argument was wrong. The rate of interest argument is only valid if real rates are lower. If that is the case higher shares prices are justified because the relationship between valuation and profits reflects the fact that the bond markets offers less return on capital. But, if rates are low because inflation is low, then it’s a different story. And markets seemed to overlook this fact.
Despite this, Mr Greenspan kept his sage-like veneer, and, today, when he speaks, the world listens.
And yesterday he spoke. He warned that the US could fall into recession by the end of 2007, and, on the day markets crashed in the east, buyers became sellers, the bulls turned tail like horned beasts retreating from the china shop of exuberance, leaving a battered market in their wake.
In fact, the Dow Industrial Average fell by 416 points – the biggest daily fall since markets returned to work after the events of September 11 2001. It was the seventh worst day ever recorded, although, at one point, things were even worse. The Dow staged an end of day comeback.
The losses comfortably wiped all of the year’s gain, in one day. The index started the year with an all time high, and by last week was 323 points up on the start of year opening position.
But, so far, the Dow is still way above the level seen on December 14 2000, when it peaked at 11722. That is 494 points below yesterday’s closing point. The index passed the December 14 milestone again last Autumn.
© Investment & Business News 2013