Stock markets have calmed down over the past few days, but economists and analysts warn that investors face years of severe market swings until national debt crises and other threats to the global financial system are finally resolved. MIT Sloan Professor, Andrew Lo, notes that "What's unique is the volatility of the volatility."
More than ever on record, individual stocks in the Standard & Poor's 500 Index are moving in unison, according to data from the stock market research and money management firm Birinyi Associates. Andrew Lo says "When you have overriding political considerations hanging over the market, all stocks are going to respond in kind."
Experts say investors should expect even more volatility in stocks, as herd trading by hedge funds, knee-jerk trader reaction to news and lightning fast computer programs combine to make for a new and uncomfortable normal on Wall Street. MIT Sloan Professor, Andrew Lo, says "We are seeing extraordinary emotional reactions from central banks, politicians, regulators and investors. That kind of reaction is not conducive for building long-term wealth."
The European Securities and Markets Authority said in a statement that short sales—negative bets on stocks—would be curtailed in France, Belgium, Italy, and Spain. Andrew Lo says that it is impossible to know whether the panic of 2008 would have been worse without the ban, but general studies of short-selling have found that bans on that activity can lead to more volatility in the market and lower trading volume.
With consumer spending already declining in recent months, economics say the plunge in the stock markets over the past month could deal another significant blow to Americans' spending habits—a threat that could imperil any meaningful economic recovery. MIT Sloan Professor, Andrew Lo says: "That kind of perception of a loss in wealth is going to make people more frugal, more reluctant to spend—and that's exactly the wrong direction for the economy to go."
As investors adjusted to a new world in which the United States government doesn't have a perfect credit rating, stocks suffered one of the worst sell-offs in history Monday, and a fresh recession seems increasingly possible. Professor Andrew Lo says: "American voters are going to realize that the political impasse has consequences that will hit them in the pocketbook."
In an unprecedented and historic move, Standard & Poor's downgraded U.S. Treasury securities one category from AAA to AA+. Experts are increasingly worried that the American economy is headed back into recession. MIT Sloan Professor, Andrew Lo says "This is the worst thing to have happened, given the weak economy we already have."
Hedge funds are facing increased obstacles, of which the regulatory requirements are just one. MIT Sloan Professor Andrew Lo says "weighed against the economic value hedge funds arguably create through the more efficient allocation of capital, must also be set the systemic risks which their herdlike and short-termist behaviour create."
For municipalities struggling to get their finances in order and for the professionals who oversee their investments, the battle being waged in Washington over the federal debt ceiling has become an urgent source of worry. MIT Sloan Professor Andrew Lo provides his input, saying "Any time you have any kind of coordinated divestiture, there's alwasy the risk of a panic and a bank run, but instead of a run on a bank, it's going to be a run on money market funds."