Much of the consternation about the outlook for the economy and stock market arises from confusion about average behavior versus marginal behavior.
Stock prices move higher and lower each session based on trades made by a relatively small number of investors, representing a marginal amount of invested capital.
Prices change based on the supply of shares being offered by would-be sellers and the demand to buy those shares by would-be buyers. The sentiment of the average investor who is neither a buyer nor a seller at any particular moment does not count.
Numerous studies have shown that the average shareholder, however that is defined, is not actively engaged in the market and may buy or sell shares just once or twice a year, with little regard to the state of the market.
Because many of these people are unlikely to watch CNBC, open online trading accounts or read slick magazines about instant wealth, they tend to be ignored. Instead, the financial press mischaracterizes marginal investors as being average investors.
The monthly survey of investor sentiment by PaineWebber showed that investor optimism barely changed in the first two weeks of February compared with the first two weeks of January, despite a 10 percent drop in the Nasdaq composite index in the February period and a 15 percent rally in the January period.
The survey reaches investors in households with total savings and investments of at least $10,000–not necessarily active investors.
The flip side of this analysis may be present in the fascination with consumer confidence surveys.
The average consumer is not shopping for a car on any given day. Yet his or her attitude toward the overall economy and job market apparently counts as much in confidence surveys as the consumer who is in the car market.
The confusion of the average and the marginal may explain why consumer confidence seems to be plummeting, while retail spending is not.
Roger Ferguson, vice chairman of the Federal Reserve, noted in a speech Tuesday that “a somewhat puzzling feature of the recent period has been that, despite the sharp weakening in [consumer] sentiment, household spending appears thus far to have held up well.”
Yet in terms of economic policy and business planning, the behavior of the marginal consumer looking for low prices and solid value in real goods and services is far more important than the behavior of the marginal investor looking for quick financial gain.
Distinctions between average and marginal are critical for Alan Greenspan and other political and economic leaders.
Unless Greenspan intends to join the stable of talking heads polluting cable television with self-serving punditry and touting, he would do well to focus his thoughts on average investors and marginal consumers, not the other way around.
Tuesday’s action: Technology stocks fell broadly in moderate trading, after news of a larger-than-expected decline in consumer confidence failed to prompt the Federal Reserve to cut short-term interest rates.
Some investors had bet that the Fed would stage an emergency rate cut as soon as weak consumer-confidence data was published by the Conference Board.
The bet helped to rally stocks on Friday and Monday, although there is no evidence the Fed keys its interest rate decisions to consumer-confidence reports.
Meanwhile, Goldman Sachs said it was “too early” to start bargain-hunting among technology stocks, given prospects for a further slowdown in the U.S. economy.
“We do not think it makes sense to try to be a hero and buy these stocks too early,” the investment banking and brokerage firm said. “The brief rallies we’ve seen seem to be aborted fairly quickly as we face the next round of cuts.”
The Dow Jones industrial average slipped 5.65 points, to 10,636.88, on New York Stock Exchange volume of 1.11 billion shares. Losing stocks held a slight lead over winners among NYSE-listed issues.
The Standard & Poor’s 500 index edged down 9.71, to 1257.94.
The Nasdaq composite index dropped 100.68, or 4.4 percent, to 2207.82, its lowest close since Dec. 31, 1998. Losers topped winners by more than a 2-1 ratio among Nasdaq stocks.
Treasury securities rose on the report of eroding consumer confidence.
