People Are Worried About Everything

A serious market crash will have two components. The first is, let’s say, fundamental, or psychological1: People thought stuff was worth a lot and they bought it, and then they decide that actually it isn’t worth so much, so they sell it and its price goes down. The second is, let’s say, technical, or deleveraging: People thought stuff was worth a lot and they borrowed money to buy it, and then its price went down, and they might still think it is worth a lot and want to hold on to it, but they have to pay the money back and can’t borrow any more, so they have to sell the stuff to pay back the loans, and its price goes down even further.2

The second component is a derivative of the first—for one thing, the price needs to go down for fundamental reasons to trigger the second problem; for another thing, the reason that it becomes harder to borrow to finance leveraged positions is often that the lenders have started to have fundamental or psychological misgivings—but it can often be more serious. The first component is a story of prices adjusting to reflect reality, which in generic terms sounds like a good thing. (Of course it’s bad if reality has gotten worse, as seems to be the case this week.) The second component is a story of fire sales, of people selling stuff below (what they think is) its fair value because they have no choice.