Every stock trader on Wall Street knows that human behavior is powerfully motivated by fear and greed. To be sure, there are other forces that influence behavior such as love, compassion, devotion to duty, and so on. But for economists and stock market professionals, fear and greed go a long way to explaining the behavior observed in the stock market. Even the iconic symbols of the stock market, the bull and the bear, are metaphors for the way greed and fear wrestle to control the emotions and behavior of buyers and sellers in the stock market.
So far in 2016, fear has been the dominant force. Average stock prices have fallen as much as 10% in less than a month before rising a bit at the end of last week. When fear is dominant, some shareholders become less willing to bear the risk of owning stocks and they try to sell their shares. But fear also causes fewer people to be willing to buy shares. To entice more buyers into the market, the share price is reduced, adding to fear in the market. The stock price keeps falling until it reaches a low enough level that greed can overcome fear. Potential investors looking for a bargain become interested in buying. Prices stop falling and may even begin to rise as greed urges buyers to take advantage of the "buying opportunity".
Stock markets are not always this emotion-driven. In "normal" times, the bear of fear and the bull of greed are relegated to their respective cages. Prices are determined according to rational financial analysis. Buyers and sellers each make a realistic assessment of the future potential of the company within a fairly narrow range of optimism and pessimism. Fear and greed are hidden from sight. But if something happens to upset the tranquility of the market, fear and greed quickly make their presence known and prices become driven by emotion and not so much by reason.
What happened to let fear and greed loose on Wall Street in early 2016? Some commentators point to the extraordinary fall in the price of oil, following the OPEC meeting in December, as the cause of the market decline. Low oil prices for an extended time will bankrupt some oil producers, and could harm the economy, especially in the oil producing parts of the country. Maybe, but low oil prices will benefit most companies and consumers. The benefits in the whole of the country should more than offset the negative effects in the oil patch. Other analysts claim the sudden drop in stock prices is the market reaction to the decision of the Federal Reserve to end its policy of zero interest rates. That's possible, but the immediate market reaction last month, when the Fed raised the federal funds rate by a mere 0.25%, was to rally stocks to even higher prices. Many commentators point to the dramatic slowdown in economic growth in China as the reason for the slump in stocks this month. Perhaps, but the problems in China have been well-known for most of the past year. Why should it suddenly affect markets now, and not last October, November or December? Still other prognosticators blame the Presidential election. Perhaps the market is reacting negatively to the rising campaign strength of Bernie Sanders, Donald Trump and Ted Cruz. Could this be the source of fear and greed on Wall Street?
From a Christian perspective, we should heed the words of Jesus. Our heavenly Father watches out for the sparrows; how much more He will watch out for us. Jesus told us to lay up our treasures in heaven, where it is protected from thieves, and moths, and market gyrations. After the financial crash of 2008-2009, my wife and I reflected that our best investments were those we made in God's kingdom, just as Jesus said.
While laying up treasure in heaven is a timely reminder, the question remains what to do with our earthly treasure during this period of turmoil in the stock market? We are, after all, stewards of these earthly treasures and Jesus had plenty of practical teaching about the importance of good stewardship.
No one knows what will happen to markets in the coming year. As a professor of economics, I read a lot of analysis from many different sources; economists, investment advisors, policymakers, and business leaders. There has never been such a divergent range of opinions, from people whose opinions I respect, than right now. For example, Brian Wesbury, a well-respected economist with whom I often agree, is confident that the economy will plow ahead with slow and steady growth, based on evidence he sees in current data.
On the other hand, David Stockman, a sharp observer of all things political and economic, is convinced thirty years of government meddling in the economy has finally reached the breaking point. According to his story, China is on the brink of economic collapse from debt-based malinvestments. The Fed is helpless to absorb the China shock because the US (and Europe and Japan) is already at "peak debt", due to thirty years of easy money and government deficits.
So, if you are bewildered as I am, here is some practical advice for how to be a good steward. First, live within your means. Pay off credit card debt. Second, consider whether you should protect your nest egg. If you have assets in the stock market, perhaps in a 401(k) plan at work, decide whether to move some of those assets out of the stock market. If you are under age 50, you can probably weather the storm. You have plenty of time until retirement to let economic growth work for you.
If you are over age 50, you should consider taking some precautions. One precautionary strategy is to move half of your 401(k)/IRA account from stock funds to cash or very short term (1-3 years) government bonds. (Avoid long term bonds. They lose value when interest rates rise.) If stock prices go down over the next year, losses in your retirement funds will be limited. You can then transfer money back into stocks (over time) at a lower price and therefore realize a higher return. On the other hand, if markets rise over the next year, you will still participate in that rising market with half the retirement account, and sleep better at night with the other half in cash.
Let the bull and the bear wrestle it out on Wall Street. Heed the advice from the Apostle Paul:
Do not be anxious about anything, but in every situation, by prayer and petition, with thanksgiving, present your requests to God. And the peace of God, which transcends all understanding, will guard your hearts and minds in Christ Jesus. (Philippians 4:6-7 NIV)