The day after a disaster 1 comments

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By now most would have heard of the multiple bombings in London that transpired just a few hours ago, and Tony Blair has acknowledged that it was a coordinated terrorist attack. The European markets have fallen 2-3% as of now, while the US market futures are pointing at a 150-200 point drop at the opening.

As the Singapore market looks poised to open in the red tomorrow, it seems like a good time to think about appropriate investment responses on the trading day just after a major disaster (natural or human) has transpired. In my view it's a function of the volatility of one's portfolio stocks, his willingness to exchange long-term positions for short-term trading ones, and his view of how the disaster will be priced in by the market.

If one is invested in quite a number of volatile high-beta stocks, it might be prudent to liquidate some of these at the opening because once their price momentum is established it will take on a life of its own, in this case downwards, for the rest of the day. If one, on the other hand, holds a number of steady stalwarts (such as cash cow companies) then he might consider trading them in for liquidity to buy into some of the growth stocks which are likely to have fallen significantly by the end of the day; in other words, taking the chance to reallocate one's portfolio.

As for the second factor, there is no question that whether short-term trader or long-term investor, if the market is going to trend down, one must liquidate early. However I have learnt to respect the market and how it often defies one's strongest beliefs. This is because the market is dynamic and made up of humans not equations; if everyone believes the market is going to fall and everyone sells at the opening, then surely the impact might be overly priced in? Ultimately the investor must decide whether he is ready to lose his positions in his currently invested stocks by selling them off for liquidity when the market opens. If he thinks he can buy them back in several days at a lower price (and hence effectively shorting), then by all means go ahead. However if he believes they are already significantly underpriced, then he runs the risk of losing positions on them supposing that he sells them off and they somehow rally instead of falling.

Thirdly, is the disaster going to affect business fundamentals? Market psychology is one thing, the impact on actual business is another. Contrarians would argue that when the crowd is pessimistic, one should go against them; momentum players would say go with the flow; hence whether market psychology over- or under-prices the market at the opening after a disaster the previous day is debatable. However, if it is going to lead to long-term business concerns, such as the Sep 11 disaster, then one might look to go to cash, at least partially.

The terrorist attack today is probably the fruition of a series of security scares that have hit Western countries since September 11. The latter has already brought global realisation of the terrorism threat, to the effect that the 2004 Madrid bombing did not have deep impact on the markets. One has to really think twice before dumping his stock holdings at the SGX opening tomorrow.