“The Market”: A View From 30,000 Feet Above, by Scipio

I often hear people use, or quite often miss-use, the term, “The Market”. What exactly is “The Market”? I will try to define it in laymen’s terms trying to avoid precise market concepts and jargon. The term sounds straightforward and simple but it can be somewhat complicated.

First of all, let’s talk about what “The Market” is not. It is not the economy. The economy and the market are two different distinct entities. More often than not they do not run concurrently either up or down simultaneously. For example, right now the market is up but the economy is down despite statistics that are paraded out by the current Administration as well as the previous one. The economy can be broadly defined as the GDP, or gross domestic product, of a country. It is comprised of industrial production, manufacturing, fisheries, logging, mineral extraction, advertising, entertainment, general services, etc. The term “The Market” can have different meanings depending on its context. Most often it means USA stocks and bonds. Stocks are ownership interest in listed companies (I won’t go into unlisted companies that is another subject). Bonds are IOUs that are a promise to pay bond holders their loan back with interest. There are different types of bonds (Corporate, Munis, Treasuries, for example) with their own third-party classification risks. Mostly the term “The Market” is used to mean the Dow 30 or the S&P 500.  I will get into those later.

In addition to stocks and bonds there are also Currency Markets where hedges (bets) are placed on the movement of a currency or basket of currencies. This is done primarily by international corporations doing business in multiple nations with different currency risks. There are also speculators who can have a big influence on this market.  George Soros is a major participant in this area. Allegedly he almost single handedly destroyed the Thai currency, the Bhat, and subsequently the Thai economy in the 1990s. There is the Options Market which is also a hedging mechanism. Someone writes (sells) an option, for example: I will buy your house in 90 days for X number of dollars. Another person buys that option for a certain price (strike price). Depending on the movement in price of the house the buyer or the seller executes the option or simply let it expire unexecuted. Then there are Derivatives, i.e., an investment derived or piggy backed on another existing investment vehicle. For example, in the old days when transactions were done with paper rather than electronically like today, bonds (most kinds) were issued with a tear away “coupon”. Every six months you tore off the coupon, took it to the bank and were paid the last six months interest. You did this every six months until all the coupons were gone and then you were given back the money you had loaned the institution. Today the interest payments are electronically paid to your account.

My first experience with derivatives was when a brokerage firm created a derivative market by buying a bunch of bonds, and sold the coupons and bonds separately on the secondary market and called them “Strips”. BTW the jargon I just used – “secondary market” – is a place where people who originally bought bonds from the original borrowers are able to sell them before maturity (due date) for whatever reason they needed.

Reaching back in time you may recall, the term “toxic assets” in the news about a decade ago. These were derivatives that went crazy. Financial institutions were creating derivatives off other derivatives that were then created off other derivatives and on and on. The regulatory bodies, SEC (Securities and Exchange Commission, etc.) were either asleep at the switch or bribed or both during this time. This created the so called “Great Recession” of 2008 which led to the current 2020 financial crisis that has been incorrectly blamed on COVID although COVID exacerbated it.

When the government stepped in in 2008 and bailed out the entire financial industry, they put the debt payback on the public (i.e., the average taxpayer), not the financial institutions that created the panic. No one went to jail in America for this unlike Iceland were dishonest bankers went to jail. The “toxic assets” were never accounted for, and to this day they have been papered over by The Federal Reserve (The Fed). To keep “The Market” from collapsing, the Fed started QE (Quantitative Easing), another word for massive printing of money out of thin air while simultaneously employing a ZIRP (Zero Interest Rate Policy). Meanwhile in the US Legislature, Democrats and Republicans alike, have run up multi trillion dollars in debt that are now so large it is impossible to repay.

I believe there will be a collapse in the financial markets followed by a collapse in the economy. Then they both will be moving concurrently downward which is real bad news. I also believe that COVID is, in part, a distraction for this coming event.

So, what is “The Market”? Well, it’s all those financial instruments I mentioned above generally speaking combined together. However, that’s not all, there are also paper assets based on tangibles such as commodities, agriculture, mineral, and energy etc. that is part of “The Market” as well. There are derivatives based on real estate and metals, most often in the form of ETFs (Exchange Traded Fund) or QQQ’s that track the performance of an underlying index.

That brings us to indexes. Indexes are a group of paper assets benchmarked to gauge the performance of a particular sector of “The Market” based on some selected criteria. The most common is the Dow 30 which is 30 of the largest companies representing the most important sections of economy. It’s like a quick look at the market movers and shakers to see how things are going. If your investments are not in these thirty blue chip companies or similar ones then this index is meaningless to you personally. It’s like if you were keeping an eye out for the best price for diesel fuel but you drive a gas vehicle. The S&P 500 is the broadest market indicator. The value of this index represents approximately 75% of the entire financial market (called capitalization) and presumably an indicator of the overall economy. It certainly covers many more companies that the Dow.  But keep in mind there are over 3,500 listed companies, so 500 is not that big a sampling number wise.  However, the S&P broadly representing “The Market” is not necessarily true either, and as it is currently, a very misleading indicator. For example, the S&P returned almost 27% in 2021. However, take a closer look and you will see 14% or 70 companies out of 500 hit all-time lows and lost money. More revealing is that over 30% of the total return of the index was done by the FAANGs (Facebook, Apple, Amazon, Netflix, and Google). BTW so far in 2022, Microsoft has pushed into FAANG and pushed out Netflix making a new modified group of leaders called FAAMGs. So, once again if you weren’t into the FAANGS or similar companies last year, your return, whatever it was, did not reflect the 27% gain of the S&P.

Now when you say “The Market”, in addition to the above you may be including ALL four major markets: New York (NYSE), Tokyo (TSE), London (LSE), Hong Kong (HKG), and Shanghai (SSE) with a more macroeconomic point of view in mind. You may even be including the major world indices such as FTSE, NIKKEI, and DAX. As you can see “The Market” can be quite gargantuan or narrowly defined. Context will always determine what you are referring to and a trained ear will understand what you are talking about or be confused about what you just said. Most everyone else will just have a muddled idea of what “The Market” is when they hear it but not you, because you just graduated from this introductory financial market class!

As a tip, everything you see on TV, all the talking heads with their analysis and graphs is information for institutional investors who are active traders. The retail investor, generally under $1 million dollars, are usually not traders, instead they use “buy and hold” strategy, meaning they sell their little basket of “The Market” when they need money, they are not looking to take advantage of changing markets. Then there are that army of day traders and Robinhooders making a killing out there ;).

If you really want to get a greater understanding of “The Market” in simple straightforward language, I suggest educating yourself at Investopedia.com.

Disclaimer: Nothing written here is intended to be investment advice but is for educational purposes only. Consult a trained professional and consider risks/rewards, your risk tolerance, investing experience and resources. It’s important that you do your own research. Neither is anything herein to be considered tax or legal advice.