Wednesday, May 6, 2009

Fear subsides, prices rise (5)

This has been a theme here for a long time, and it's playing out nicely after having derailed a bit in February and early March. The VIX index, a measure of both fear and the underlying volatility of stock prices, has declined significantly from its highs of last year, and now we see that equity prices have moved back up from their lows.

This is the sort of thing that can feed on itself. This whole crisis was accentuated, if not precipitated, by fear—fear of a collapse in the banking system, fear of a global depression, fear of deflation. Fear caused consumption expenditures to hit an air pocket; fear caused people to mistrust counterparties, to deleverage, and to build up their stores of cash. Now that is reversing, and that means that money can start flowing again (i.e., the velocity of money can pick back up). That will support stronger spending, more investment, and potentially, higher prices. Very bullish, given the extremely depressed level of valuations that prevailed not too long ago. All it took to produce a strong rally was the realization that the economy was not going down a black hole, as so many doomsayers were predicting.

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