Monday, February 16, 2009

Is the stock market itself a Ponzi scheme? Part 1

Listening to Tess Vigeland interview Roger Lowenstein on Marketplace tonight didn't do much to inspire confidence. Read or listen to "Rethinking the Long Term" here. Note how Lowenstein never really gives a clear definition of "long term."

Lowenstein: The way most of us get our reward day in, day out, is because the stock goes up and we can sell at a higher price. And what does that mean, the stock goes up? It means other people are coming in and bidding it up. So, you know, at least in the short term, even us normal investors -- people who wouldn't associate ourselves with people who invested in Bernie Madoff -- we're dependent on other people coming in and buying those stocks in an absolute sense. That's what a Ponzi scheme is.

Vigeland: But at least we think that we're investing in something besides air, right?

Lowenstein: Well, we are. I mean, I think you're asking me, is there really a difference. And yes, there is a difference, because underneath the Ponzi scheme, as you say, there is nothing but air in the long term. You know, when you invest in the stock market, you do own a share of a productive enterprise and they have the power to pay dividends. And by long-term that ought to mean that you think this is a good business, it's got a good franchise, it has, you know, customer base and so on. And the point I was making is, if you're very dependent on the short term -- let's just say you got to sell by next Tuesday, you're going to sell on Tuesday or Wednesday at 3:30, or whatever it is -- you're really on the hook for whether other people come in or not.

Vigeland: When we think of the short term versus the long term, I wonder if that definition has changed at all because of the economic crisis? I love your point in the article where you say, look, if you are actually watching what is going on from day to day, even month to month in this thing, you are not truly in it for the long term. What is the long term?

Lowenstein: Right. Well, you know, I don't think it's that the definition has changed so much. It's how we perceive it has changed because of how things are going. When markets were going up -- and it was a good long time where, with some fluctuations along the way, they mostly did go up -- everybody's a true blue, got religion, long-term investor, I can withstand the downturns.

Vigeland: Right.

Lowenstein: Yada yada yada. But I think what we're seeing now, and not so much the definition of the term or the long term has changed, is we're realizing what it really means to withstand the fluctuations or the down periods. This is a pretty severe down period. And so, you know, while we may have said to ourselves and to others we're in it for the long haul, I don't think we really tested ourselves or understood what that can mean.

Vigeland: Then it sounds like maybe we do need to change our notion of what the long term is. If we're not factoring in a market like we've seen over the last year, then maybe we're not as long term as we think we are?

Lowenstein: You really have to know why you're in a stock. If you're investing long term, it's got to be money that you're not going to need in eight, 12, even 24 months. You know, if you're worried because you're going to have to pull that money out to pay college tuition or something, that money shouldn't be in the stock market -- it never should have been in the stock market.

So long term means over 24 months? Over five years? Over a decade? To me, Lowenstein's final remarks sound like a person shouldn't sink any money into the stock market that she wouldn't mind losing. But then the words of the Oregon Lottery disclaimer immediately flash in my mind: "[this]is a game of chance and should not be played for investment purposes. Lottery games should be played for entertainment purposes only."

I'm no economist. There's a lot I don't understand, so I need your help. It seems to me that in the "long term"-- whatever that is--no less than in the short term, "we're dependent on other people coming in and buying those stocks." But isn't that just what we mean by a Ponzi scheme?

Somebody, please, "'splain it to me."

1 comment:

Anonymous said...

Yep. I just snapped to this realization this morning while laying in bed and have been searching for a solution everywhere but have yet to find one. Bottom line: Every cent taken out of the market (short term or long term) first has to be put into the market. Everyone who takes out more than they put in is simply profiting from those who have put in more than they will take out. Classic Ponzi scheme. Forget long term and get out now.