Confusing Cause & Effect

Monday, July 26, 2004 | 02:11 PM

As the indices flail about, groping for a bottom, the search for an explanation as to what ails the markets continues apace. The latest potential culprit: Politics! The WSJ quoted a political analyst today, who observed that:

“I would consider that uncertainty around the outcome of the presidential election [as] one of the major influences on the skittishness in the U.S. market."
This perspective gets the cause and effect relationship exactly backwards. Unfortunately, causative errors are an all-too-common analytical blunder when reviewing market data. Given the blaring headlines and search for certainty in an uncertain world, confusing cause and consequence is a regular occurrence. This is a perfect example of that foible.

Indeed, we often see this in misguided attempts to explain the chaotic machinations of markets’ complexity: When the indices are vulnerable - during mutual fund outflows, fading M2 supply, or excessive bullishness - we see everything but those factors getting blamed.

Indeed, I have yet to figure out why it is that some terrorist attacks “roil the market” while others (with the same appalling body count) get shaken off. The horror of the situation is the same, the tragic waste of life no different; Yet the markets somehow have totally different responses. Is it, perhaps, because these headline events are not really what is causing the markets to shudder and shake?

Returning to politics: Markets are not skittish because the incumbent is in trouble - that’s getting it backwards, a perfect example of confusing cause and effect. Incumbents are in re-election trouble because the future discounting mechanism of the markets is incorporating a slowing economy into its pricing. While the markets do not always get it precisely right, they do so often enough that a weakening economy-which hurts equity prices-invariably negatively impacts an incumbent’s re-election chances.

The Journal notes:

"The most talked-about political worry is Mr. Kerry's tax policy, which, according to his policy advisers, calls for undoing the recent cuts in capital-gains and dividend taxes for investors with incomes greater than $200,000.”
Is this what’s really been worrying the markets?

Unless there is total election shocker, there will be at most a divided government, with the House of Representatives unlikely to change leadership. This would force both branches of government to move towards the center, and govern moderately - an arrangement under both Presidents Reagan and Clinton that worked out quite well for equities.

Monday, July 26, 2004 | 02:11 PM | Permalink | Comments (0) | TrackBack (7)
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» Confusing Politics With Economics from BOPnews
One of the misleading things I keep reading is how "unhappy" the stock market is with Kerry. I address that in a column today (loosely based on Monday's comments) at TheStreet.com. Its subscription only, but here's the money quote:"Ned Davis... [Read More]

Tracked on Jul 28, 2004 3:44:30 PM

» Confusing Politics With Economics from BOPnews
One of the misleading things I keep reading is how "unhappy" the stock market is with possibility of a Kerry victory. I address that in a column today (loosely based on Monday's remarks) at TheStreet.com. Its subscription only, but here's... [Read More]

Tracked on Jul 28, 2004 3:48:03 PM

» Confusing Politics With Economics from BOPnews
http://www.typepad.com/t/trackback/965932 [Read More]

Tracked on Jul 28, 2004 3:58:27 PM

» Carnival of the Capitalists from Business Evolutionist
Welcome to this weeks edition of Carnival of the Capitalists! Thank you for stopping by! We've got a long this week, so grab a cup of coffee, or two, and enjoy! Todd at A Penny For posted about the BlogOn conference and comes home with as many question... [Read More]

Tracked on Aug 2, 2004 6:43:22 AM

» Dow Election Year Cycle from The Big Picture
While most nearly everybody continues to confuse cause and effect between the markets and politics, an astute reader sent me this chart below: Click for larger graphic chart courtesy of Ned Davis Resarch What this reveals is that far from the market ob... [Read More]

Tracked on Aug 12, 2004 7:55:58 AM

» Dow Election Year Cycle from The Big Picture
While most nearly everybody continues to confuse cause and effect between the markets and politics, an astute reader sent me this chart below: Click for larger graphic chart courtesy of Ned Davis Resarch What this reveals is that far from the market ob... [Read More]

Tracked on Aug 12, 2004 9:54:09 AM

» Dow Election Year Cycle from BOPnews
While most nearly everybody continues to confuse cause and effect between the markets and politics, an astute reader sent me this chart below: Click for larger graphic What this reveals is that, far from the market obsessing about who will... [Read More]

Tracked on Aug 12, 2004 10:16:15 PM

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