The Wisdom of Crowds
05/15/08
I chose the Russell 2000 because it represents the Small Cap Universe of companies with market capitalizations between $250 million and $2 billion. Small Cap companies depend on the domestic economy (not on exports) for the bulk of their revenues and therefore serve as an indicator for Wall Streets perception of strength or weakness in the domestic economy. Right now the markets are discounting a better second half of the year, and this is helping to drive prices higher, although the economic and earnings data is mixed at best. The hope for a better half of 2008 would need to change in dramatic fashion over the next few weeks for the shift in sentiment to occur and allow distribution pressure to control price behavior once again. Until that happens, we will have to ride the tiger and have faith in the infinite wisdom of crowds. The wisdom of crowds is an important concept and even though it pains us professionals sometimes, seems very valid to me. An anecdote relates Francis Galton's surprise that the crowd at a county fair accurately guessed the weight of an ox when their individual guesses were averaged (the average was closer to the ox's true butchered weight than the estimates of most crowd members, and also closer than any of the separate estimates made by cattle experts). The theory (if you want to call it that) relates to diverse collections of independently-deciding individuals, rather than crowd psychology as it is traditionally understood. Its central thesis states that a diverse collection of independently-deciding individuals is likely to make certain types of decisions and predictions better than individuals or even experts. While �Peak-Oil� fear grips the energy markets, the stock markets around the world are slowly getting over the sub-prime crisis. This is not to say that the aftermath will be easy to deal with. On the contrary, there will be plenty of events that will have nasty consequences. Only the markets have already discounted most of the detrimental effects and �the crowd� as represented by all market participants �knows� that sub-prime related events will not surprise anybody anymore. Therefore, the U.S. markets can look through sub-prime and concentrate on what else is happening in the world that may influence stock prices. Look at the chart above, for instance. The Baltic Dry Index hit its low on January 29 at 5,615. The previous peak was at 11,039 set on November 13, 2007. The recent surge has seen the BDI increase 3,000 points in just under a month, coincident with a renewed surge in commodity prices. The BDI, according to the Baltic Exchange, provides "an assessment of the price of moving the major raw materials by seas. The index therefore provides useful information on the pace of economic growth. As you can see, economic growth must be happening somewhere, even though it may not happen in your neighborhood. This is also the reason, why the stock markets in raw materials related economies like Canada and Brazil reached new all time highs this week. Let�s face it, the crowd has long figured out that we are not driving off a cliff and that civilization as we know it �peak oil or not- is not going to disappear. It may even thrive. Hermann Vohs
This information is not to be construed as an offer to sell or the solicitation of an offer to buy any securities. |