It should be no surprise that one of the biggest signs for a market debacle is when company owners stop investing in their own productive capacity and turn instead to speculating in the financial markets with everyone else.
If a business owner had a great product but stopped investing in the plant, equipment and labor of is company, I would think the owner was having serious thoughts about the future of his or her enterprise.
But why would they stop putting money to work in their growing business? Do they see something on the horizon that makes them think a change is coming? And how would they know? Do they have a crystal ball?
Business Cycle theory
Any business owner who is grounded in Austrian Business Cycle Theory (ABCT)
doesn’t need a crystal ball. The market should tell them everything they need to know.
Increase in money supply
The first tell-tale sign of an impending reversal in market fortunes is a massive increase in the money supply.
I’ve covered this in a previous post. This increase drives interest rate below the normal market rate that savers require to postpone their current consumption. This perceived lower time preference sends a signal to producers that the consumer is saving for the future.
The producer in turn moves his production into goods of higher order that take longer to produce. The market has signaled that this is the prudent choice.
But when the increase in money supply is not brought about by savings, but by manipulation and fiat money creation, the producer is fooled into thinking the consumers time preference has changed.
But the consumers time preference has not changed away from present consumption. The producer has been fooled and comes to realize that his business has an excess of inventory that will need to be liquidated. This liquidation brings on a market reversal and economic contraction.
But what if a major business owner comes to realize that he or she could shift assets away from production into the speculative markets in the hope of mitigating the inevitable drop in market share.
Neophytes jump into the game for easy gains.
Why not the business owner as well. Besides, he can’t use excess resources for production. The market signals have been obscured by easy and abundant money. There really is little that can be done. And so the cycle goes.
The business owner is last to rush in order to help shore up his failing enterprise. But at this point speculation is his only avenue and much like everyone else he is seduced into playing the greater fool game.
The final rub comes when the speculators see they are standing in a house of cards and a hurricane is at the gates. The stampede begins with a rush to escape before the barn door closes. This too is classic ABCT.
Now is a good time to consider the makeup of a portfolio. If you put on new trades, then trade very small. No big positions.
Define your risk and only have a small percent of your money at risk. New opportunities are always coming down the track.
Do you have any questions about getting started in Options trading? Share in the comments so I can help.
