Herb Greenberg Says Markets Are Broken

There seems to be a lot of commentary around the interweb lately about various aspects of markets, financial systems and ideologies (like capitalism) being broken. These are worth exploring in terms of trying to figure how to get along if these really are broken or even if they are just frayed around the edges. Herb Greenberg had a related post yesterday.

Going point by point on Herb's piece;

1) A fixation on the macro.

Herb contends that macro factors are more important these days in terms of dictating market action than anything else. He appears to be implying that this is different than how it has been before. He might be right about the macro tail being different now but as someone who believes in top down I would say that the macro has always been more important.

I've made a big deal over the years as to why I have been underweight Europe and US financials since before this site started. I've made just as big a deal over how simple the macro work was to lead me to these conclusions. This was far easier than had I tried to come at this from the bottom up. Herb mentions being "tied to the whim of the latest hand-wringing over the European financial crisis." Here's some simple macro work; do you know there is a crisis in Europe? Well then avoiding ground zero for the crisis and other parts of the market most likely to be affected might be a good idea. Avoiding ground zero is easy, figuring the other segments most likely to be affected will take a little more work but would not be impossible.

2) The Internet.

I think his beef here is that you can't always know the qualification or motivation of the person writing free research that is available. This strikes me as being small potatoes compared to the extent to which the internet is a democratizing force for both consumers of content and producers of content. For consumers of content there is access to people that would otherwise have no easily heard voice. Without the internet would we have any idea who Mike Shedlock, Edward Harrison, Cullen Roche or Bruce Krasting are? How much less informed would we be without them?

Think of all the data for individual stocks, data for foreign countries and on and on. I can't see the internet as a net negative.

3) High-frequency trading.

Herb shared a consensus the HFT is contributing to increased volatility but he was so brief on this point that I don't think he puts much importance on this point. I talked about this a few days ago. I don't doubt that there is some market influence here but whatever the extent of the influence is it is short term in nature, so less relevant for long term investors, IMO.

4) Last but not least: ETFs.

This is mostly about 2X and 3X ETFs tied to broad indexes moving markets. The volume of these funds looks like it does increase in the last hour of trading and the daily reset process does cause trade at any price volume. Maybe this is yet another reason to avoid broad indexes if your account is large enough.

In this point was something useless about the number of ETFs increasing even as the number of stocks are decreasing. There are still many more traditional funds than ETFs and some ETFs are offering access to segments to which there was previously little or no access except through individual stocks.

All investment products have positives and negatives, end users need to weigh them out for themselves and then decide. It is pretty clear that Market Vectors Vietnam ETF (VNM) or the First Trust Global Wind Energy ETF (FAN) are not disrupting market activity, distorting volatility or otherwise having an unintended ripple on the world. Focusing on that makes ETFs pretty benign but if you can only focus on what the levered, broad based funds might be doing then you would think they are malignant and probably not use them. The third choice might be that you believe they unduly influence the market and you try to exploit that.

My message about ETFs has been the same which is they are tools for access with positives and negatives that need to be sorted out by each end user.

As for the bigger question Herb tries to answer about whether the market is broken I imagine many would agree with him although this is not the most productive way to view it. As a repeat theme the previous decade shows us that markets can go up without the US. Broken or not this is world we live in. As another repeat theme avoiding the potential gain in global equity markets is valid but means accepting tradeoffs like saving more or getting by on less.