Air Out of the Real Estate Bubble?

With each passing day, there seem to be more and more signs that the air is coming out of the real estate bubble in the U.S. News of layoffs at mortgage lenders and investigations of some mortgage lenders seem to be consistent with the popping of a bubble. Most of the economic data and trends related to real estate are also consistent with a downturn in real estate. The Economist magazine has an article (March 22, 2007) analyzing the rise in foreclosures and the downward direction of the real esate market.

Mad Money Gone Mad?

I have already put in my two cents about Jim Cramer (the host of CNBC's 'Mad Money') in a previous blog post: "Mad Money" Should Make Average Investors Mad (March 26, 2006). It seems that Jim Cramer has gone to new levels of madness by revealing how he and other hedge fund managers (Jim Cramer used to be in the hedge fund game) manipulated (either supposedly 'legally' or illegally) market information in order to boost their short-sell positions. One place you can read about this is in the New York Times DealBook blog (March 20, 2007). You can also see the video of the interview at YouTube.

If what Jim Cramer is saying is true, then the Securities & Exchange Commission (SEC) should take a serious look into these practices. One of the tactics, which Cramer calls "formenting," involved feeding deliberately false information into the markets. I'm not sure if this type of activity would fit into the 'fraud on the market' theory of securities law and regulation, but it's worth investigating.

As for Jim Cramer's other comments -- about how he thinks it's a swell idea to basically lie and defraud people as a hedge fund trader -- is so digusting to me that I can't seem to find the words to condemn him. I will say one thing though ... if you notice that my previous blog post warning people about the empirically demonstrated negative impact on the investment returns of those who follow Jim Cramer's Mad Money advice was written about a year ago ... at least my conscience is clear. The Econophysics Blog did a public service in putting up that post. This latest shenanigans by Jim Cramer proves up the wisdom of that year-old warning.

China & Grey Tuesday

As I've stated in the past, I try to avoid making this blog too event-driven. I'd rather let things happen in the markets, see if they are worth commenting on, and, if it is worth commenting on, try to analyze events after the dust has settled and clearer heads prevail.

Having said that, I think it is worth pointing out one aspect of last week's sharp and sudden drop in the financial markets. Dubbed 'Grey Tuesday' by some, the events of February 27, 2007 -- where the Dow Jones dropped by more than 400 points in a matter of minutes (a rate of decline that had been hitherto unprecedented) -- garnered a lot of attention.

A lot of the 'analysis' that was given on television seemed to focus on a lot of things (the terrorist attack in Afghanistan while Dick Cheney was visiting, etc.) that seem to me to be largely irrelevant. The one bit of news that probably did have a significant impact was the sharp drop in Chinese share prices that immediately preceded the drops in Western stock markets.

China had been experiencing eye-popping rise in stock market valuations. This brought the Chinese markets (in Shanghai and Shenzhen) to the attention of wary Chinese policymakers who were concerned about over-heating markets and rampant irrational speculation. These concerns moved Chinese regulators to talk down their stockmarkets as early as January of this year. Apparently all of these attempts to cool Chinese markets came to a head at the end of February ... much to the chagrin of traders and investors around the world.

'Grey Tuesday' -- or whatever one wants to call it -- should serve as a wake-up call to the investing community. This is yet another example of how much global markets are inter-connected to one another. Claims of adequate diversification via a simplistic approach to 'global' investing is -- as the most recent Buttonwood column (in The Economist) points out -- should be met with skepticism. Correlations and covariance between financial markets in different geographic regions are not static ... they are dynamic and market values tend to move together in the most inopportune ways (in downward directions almost simultaneously).

The rapid drop in market prices is also another example of the often 'wild' nature of randomness. Events in financial markets is a lot more jumpy than what most finance textbooks would suggest.