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A Slap for a Panic Attack

Traders buying at any price fearing huge losses had their faces slapped hard

You must have seen people slapped out of a panic attack in movies. It usually goes like this: character A is screaming because of an approaching flood/nuclear attack/dinosaur/whatever. Character B slaps Character A on the face suddenly and very hard. Immediately, A snaps out of the panic and starts acting sensibly. Last Monday’s action on the stock market was a lot like that slap. Except that this was an unusual kind of panic.

Over the last couple of decades, I’ve seen a variety of panic-fuelled stampedes in the stock markets, but the severest ones have always been for the exit. I’d never expected that the worst stampede I would ever see would be in the other direction — that of investors trying to buy stocks at any cost. Now that everyone’s had a week to take a deep breath and gain some perspective, the events of last Monday look a little ridiculous.

Stock traders normally reserve their wildest behaviour for situations where they have to (or at least they think they must) act to avoid loss. This is also what the science of behavioural investing tells us. Investors are risk-averse and react far more strongly to the prospect of making losses rather than making profits. Last Monday was probably proof that there are mysteries in people’s behaviour that will never be understood. The phrase ‘panic buying’ is often used, but what we saw on that day was its one true demonstration. Now, I really know what a buying panic looks like and shall never use the phrase in vain. However, that doesn’t make the phenomena any easier to understand.

When there’s panic selling in a market, it’s because traders want to sell a stock at any price so as to avoid a loss. They don’t want to be left holding a stock that they can’t ever sell except at a bigger loss. If that’s a selling panic then what’s a buying panic? Is it a situation where traders are buying because stocks will never again be available? Perhaps. However, the most charitable explanation of the buying panic was that it was actually driven by short-sellers trying to avoid a loss. While investors were waiting for the illusory ‘post-election dip’ to buy stocks, plenty of short-term traders had taken that dip as a given and had sold stocks. After seeing the election results on Saturday, these people lined up on Monday morning to buy stocks at any price.

However, that’s the kind of thing that short-term traders do. They do go into panic from time to time, and need to be given a good, hard slap on the face. What’s important for long-term investors is to ignore these shenanigans. While the stock markets’ gains last week are certainly welcome, it would be easy to overestimate their importance. You aren’t missing any opportunity of a lifetime by not investing now. It would be just as foolhardy to rush into equities as it was to rush out during last October’s panic.

Remember those times when stocks were collapsing by the day and it felt as if not selling every investment was the stupidest thing to do? That had just as much, or as little, to do with reality as what happened last week. Those who held on during those days are counting themselves lucky now. Perhaps, history will be repeated.