The Alchemy of Finance
Market prices are always wrong insofar as they represent a bias view of the future.
The valuation of the collateral is supposed to be independent of the act of lending, but in reality, the act of lending can affect the value of the collateral.
Supply and demand aren’t just influenced by empirical circumstances, they’re influenced by expectations. Expectations can also change the supply and demand (price), and that can lead to further shifts in expectations and changes to price.
In markets, both the situations and the participants’ views are dependent variables and the interaction between them is what is referred to as reflexivity.
Given the role expectations and subjective biases play in market prices, it’s unrealistic to expect an equilibrium or fair value price.
The trend in stock prices can be envisioned as a composite of the underlying trend and the prevailing (expectation) bias.
Expectations can’t be solely capricious, they must be rooted in something other than themselves.
There is nothing to guide speculators but the market itself and the market is dominated by trend followers.
Speculation is progressively destabilizing.
It’s only net new lending that stimulates and total new lending has to keep rising in order to keep net new lending stable.
Economic activity takes place in the real economy while the expansion and contraction of credit occur in the financial economy.
Eventually, total credit can’t increase fast enough to stimulate lending. As new lending fails to accelerate, collateral values begin to decline and that can have a depressive effect on economic activity that leads to further declines in collateral.
Financial markets constantly anticipate events that never materialize precisely because they were anticipated.
Without an innate sense toward price equilibrium, prices cannot be determined through the scientific method.
Stock market booms are always associated with credit expansion.