Peter Jackson column

Oct 19 2006 By Peter Jackson, The Journal

What is it, I ask myself, as the FTSE 100 advances to a five-year high, that makes stock markets rise or fall?

Obviously, if I really knew the answer to that one I wouldn't be here, I'd be somewhere much warmer, in the company of palm trees and a long cooling drink.

But I can speculate, and I share my observation that, unlike other markets, the level of prices in a stock market is not dictated by supply and demand.

Rather, it is driven by sentiment, or by how investors are feeling - and, crucially, how investors feel about how all the other investors will feel about any event deemed to have an economic impact.

So, even if an investor believes an event to be good, as long as he has reason to believe others will regard it as bad, he will sell in the expectation prices are going to fall, and we have a self-fulfilling prophecy. And, of course, the reverse is true, and the market might rise after seemingly bad events. This goes a long way towards explaining why a company can publish apparently lousy results and have the market greet the news by marking its shares up, usually because the results weren't as bad as had been feared.

Why then, is the FTSE 100 at a five-year high? One reason I have seen put forward is that the slump earlier in the year was caused by the nuclear stand-off between the US and Iran.

Excuse me, as they say in the States, but have those two powers now resolved their differences over nuclear weapons?

And what about the little matter of the nuclear stand-off between North Korea and the rest of the world? Even if we ignore that particular contribution to international tension, we surely can't ignore the problems in Iraq and Afghanistan, or Palestine, where Hamas is threatening to break its ceasefire, or the on-going threat of global terrorism, or the fact that last month in the US the Amaranth hedge fund lost US$6.4bn - the biggest hedge fund loss ever. The weird thing is that investors do seem to be ignoring them and market sentiment seems even more adrift from reality than usual. What makes the market rise or fall? Search me, but it's certainly not logic.