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IPFS News Link • Stock Market

Are Investors Idiots?

• zerohedge.com

Let us  begin the week "on message." The Diary is about money. Today, we'll stick to the subject.  Old friend Mark Hulbert has done some research on the likelihood of a crash in the stock market.

Writing in Barron's, he points out that the risk – or, more properly, the incidence – of crashes, historically, has been very small:

"[…] consider that the 1987 and 1929 crashes were the two worst one-day plunges since the Dow Jones Industrial Average was created in 1896. Given that there have been more than 32,000 trading sessions since then, the judgment of at least this swath of history is that in any given six-month period, there is a 0.79% chance of a daily crash that severe.

And there's no reason to believe that the frequency of future crashes will be significantly higher. Xavier Gabaix, a finance professor at New York University, has derived a crash-frequency formula that he believes captures a universal trait of all markets, not just equity markets or those in the U.S. According to that formula, the odds of a 12.8% crash in any given six-month period are 0.92%, almost as low as the actual frequency in the U.S. stock market over the last century.

This means that the average investor over the last three decades has believed a severe crash to be more than 24 times more likely than U.S. history would suggest, and that investors currently believe the risks to be 28 times more likely."


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