How science explains consumer confidence and market behaviours

    “Confidence… thrives on honesty, on honour, on the sacredness of obligations, on faithful protection and on unselfish performance. Without them it cannot live.”

    – US President Franklin D Roosevelt, 1933.

    More than 84 years later these words still ring true. Stock markets, policy makers and business mavericks are all at the mercy of consumer confidence (or lack thereof).[i]

    The impact of sentiment on markets across the world is tangible. Economists have long deliberated over the cause of sharp and unexpected market downturns and surges but concentrated on tangible influences, rather than consumer sentiment.[ii]

    “For a long time, the study of how people actually made decisions was not considered important”, says neuroscientist Benedetto De Martino and one of the authors of a study conducted by the California Institute of Technology.[iii]

    Indeed, many recent studies into this phenomena are pointing the finger at the up and coming theory of behavioural finance.

    Behavioural finance by definition proposes a direct correlation between psychology and market anomalies. In other words, emotions become a driving force behind investment decisions.

    This correlation between consumer confidence and market movement is particularly evident in the aftermath of the fall of Lehman Brothers. An astounding loss of $10 trillion in market capitalisation across global equity markets followed the collapse.[iv] Buffered by the Global Financial Crisis; it was a perfect storm.

    Scientists have more recently branched out to study how high stress levels impact risk taking behaviour, specifically in the finance industry.  The studies conducted found a link between high stress levels and a more risk averse stance[v].

    Take for example, the 2014 MH17 and MH370 plane tragedies and the ensuing unease from passengers and the world abroad. Within the year, Malaysian airlines’ bookings from China plummeted 60%[vi]. Not only was confidence shaken for Malaysian Airlines, the Sydney Morning Herald noted industry wide share declines[vii].

    The volatility of consumer confidence has recently been the subject of comment by Tim Lawless, Head of Research at CoreLogic RP Data who confirms, “There is a demonstrable correlation between housing market performance and the level of consumer sentiment.”[viii]

    “When confidence levels are down, we typically see buyer demand recede and the level of capital gain moderates as well, and vice versa…” Mr Lawless continues[ix].

    Confidence is the lifeblood of economies. It has the power to sustain and derail markets. What science now explains is that this has everything to do with our brain, environment and emotions.

     


     

    This article is the opinion of the author and is written for general interest purposes only.


     

    [i] https://www.macquarie.com/au/advisers/expertise/market-insights/business-consumer-confidence-australia

    [ii] https://theconversation.com/economic-theories-that-have-changed-us-efficient-markets-and-behavioural-finance-42121

    [iii] https://theconversation.com/neuroscience-may-help-us-understand-financial-bubbles-18382

    [iv] http://www.investopedia.com/articles/economics/09/lehman-brothers-collapse.asp

    [v] https://theconversation.com/fear-of-risk-linked-to-high-stress-hormone-in-bankers-23325?sa=pg1&sq=Neuroscience+finance&sr=4

    [vi] https://www.theguardian.com/world/2014/jul/29/is-there-a-future-for-malaysia-airlines

    [vii] http://www.smh.com.au/business/malaysia-airlines-reels-after-new-crisis-hits-20140718-3c6qc.html

    [viii] http://www.perthnow.com.au/news/western-australia/consumer-sentiment-a-greater-factor-in-real-estate-markets-then-ever-before/news-story/0b87e02794d12b53a13a593d13c3df47

    [ix] http://www.perthnow.com.au/news/western-australia/consumer-sentiment-a-greater-factor-in-real-estate-markets-then-ever-before/news-story/0b87e02794d12b53a13a593d13c3df47