Wednesday, July 30, 2008

A Psychoanalytic Interpretation of Stock Valuations and its Application to the Oil Market

I recently came across a paper by David Tuckett and Richard Taffler entitled "A Psychoanalytic Interpretation of Stock Valuations." I believe it can shed some light on the current situation in commodities.

The two authors examined the academic literature on the boom of the late 1990's from a psychoanalytical perspective and came up with five stages: Emerging to View, Rush to Possess, Psychic Defense, Panic Phase, and then finally Revulsion. These stages can be applied to Commodity Investing in general, and oil in particular.

Emerging to View

It is during this stage that an investment first comes to the attention of investors, usually due to the efforts of financial analysts and the Media. As interest builds in these investments, they become "alluring phantastic objects." For the Internet Bubble, the authors identify the Netscape IPO in 1995 as the starting event that kicked it off. Other seminal events that come to find were the $1000 Amazon (AMZN) price target prediction, the IPO, and many others that have been lost to history.

For oil, it is hard to come up with a starting event. Doug Terreson's piece on the "Golden Age of Refining" comes to mind, or perhaps the publication of Matt Simmons tome on peak oil, or T. Boone Picken's almost psychic predictions on the price of oil, but it doesn't seem like there was one dominating event to kick it off. It was more of a gradual process.

Rush to Possess

The second stage is called the "rush to possess." During this stage a stampede of sorts begins as investors engage in compulsive behavior. The key to this stage, according to the authors, is the introduction of the idea that some sort of "new world" is starting. For the Internet boom, it was the emergence of a "new economy" where old ways of doing business were no longer valid. Remember when no one was going to shop in malls, or read newspapers or bank in person. Get ready we are told, don't be left behind.

We are toward the end of this stage for oil as we have been told to prepare for the world of $7.00 gasoline by CIBC just last month. We must live in a resource constrained world, according to the pundits. Americans in particular, come under some harsh lecturing. We are accused of profligate consumption, without regard to anyone else. We are no longer the center of the world, it's time for China and India to have its share. If we had followed the European model, we would have been better prepared. Investors rush to possess the investments that will benefit from this new world.

Psychic Defense

The third phase is marked by an increase in skepticism by some investors who question the fundamentals behind the rise in the investment. There were many voices who raised objections during the Internet boom, but they were shouted down or ridiculed as "not understanding the new world."

Clearly, for oil, we are in this phase. Any attempt to question the assumptions behind the growth estimates for the emerging economies or supply growth is met with shrill objections by those who have the most at stake financially, and their followers, or what I call derisively call "barnacle investors" who cling to the bottom of the more well known investors in the space.

Psychic defenders of oil investing, on a psychoanalytical basis, engage in denial, projection or splitting. Evidence is seen only through the prism that supports their beliefs. Data is mined or ignored. Skeptics are shouted down or called names.

Panic Phase

There is usually an event that pricks the bubble. For the Internet bubble, the authors cite the article in Barron's on March 20, 2000, that stated the 25% of all companies would run out of cash within a year. Once "material reality" imposes its will on the "phantastic objects" that investors held so dear, panic sets in.

We don't know what this event will be for oil. Perhaps it will be sub par growth from China, or a stunning drop in demand in the OECD.


The blame game begins as participants begin to question all the assumptions that everyone took for granted during phases 1-3.

Read my other posts on oil investing.

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