AmplifiedVolatility 63than of a piece of tradable paper or cyberspace. But this mind-set is
hard to maintain when price quotes proliferate and distract attention
to value by both existing owners and new shareholders who buy on
spec.
All this action across a broad spectrum of people and places
means more room for psychological influences. That remains true
whether all these trades arise in thousands of different places or
occur in a single place. The resulting prices bear less resemblance
to business values. The irony is that volatility exists no matter what
system emerges, though with the rise of ECNs a greater danger
lurks: trader volatility.
TRADER VOLATILITY
Trader volatility arises when trades are made for purposes unrelated
to the fundamental values of a business. These trades drive prices
to points related more to the motives of the trader than to the busi-
ness value of the company.
The wide range of trading decisions that cause price moves un-
related to business value includes: trading for identifiable economic
reasons of the trader, such as portfolio “rebalancing”; selling shares
to fund personal needs or desires, such as a child’s education or the
remodeling of a kitchen; and, most notoriously of all, day trading for
purposes of speculation and gambling. Let’s start with that one.
Day trading is usually not based on fundamental values but on
momentum, sector rotation, and other technical tactics of the type
ridiculed earlier. When trades are based on these things, they move
prices. Those moves, having nothing to do with values, widen the
gap between price and value. This exacerbates Mr. Market’s peaks
and valleys and feeds irrational exuberance and irrational despair.
Day trading is thus among the worst developments capital markets
have seen in their history for purposes of maintaining an orderly or
sensible market, much less an efficient one.
Many day traders are probably perfectly rational people; many
are not. Aberrations may get headlines, but some of the day trader
stunts captured by the mainstream press warrant attention. The At-
lanta day trader who gunned down nine people and then himself in
the summer of 1999 after suffering staggering day trading losses is a
glaring example. So too is the fun-loving 44-year-old family man who
too kearly retirement with his wife and their $780,000 nest egg only