Lehman Brothers’ Yo-Yo: There are Lessons to be Learned

When I first saw the following chart of Lehman Brothers' stock, and what it went through these last couple of days, I instantly thought of a person being springed back to life using a crash cart ... charge to 200, clear! ....

I don't remember seeing anything like this for a long time now. Still, I think there are some important lessons to learn here.

It seems 80% Economy made room for 80% psychology. Panic rules the markets. After Bear Sterns collapsed and sold for under its fixed assets' value there is definitely room for panic. But even that should be controlled. A hint of rumors on Lehman Brothers' liquidity problems caused its stock to crash by almost 40%. That is definitely mass hysteria. It wasn't over then, however, as the next day the stock soared back to previous levels with nothing changing but the wind and whispers.

In times like these economics and finance make room for psychology. Understanding there isn't any rational behavior (or very little of it) behind what's going on is very important.

It also seems like no one really knows what's going on. We always give credit to the mysterious "market" and its key players which price and factor everything from expectations to the weather. Sadly it seems no one really knows what's going on.

What happened to the stock shows there's no room for sentiments. Some people must have thought the price was way over valued to sell it so low. The point here is they didn't think about what they just lost but they thought about what's left to lose. That's a very important lesson for us novice investors. Holding on to losing stocks isn't recommended (even if they sometimes gain everything back the next day ....).

The most important lesson we've learned is that it is better to keep cool and hold on during times of crisis then acting hastily. In times of crisis it's best to stick with our initial strategy and analyze what changed in the assumptions that lead us to it other than acting hastily and making bad decisions and bad moves based on unjustifiable gut instincts (it takes time to develop the right instincts to make these decisions during the heat of the moment). Stocks, like many other economic parameters, display a phenomenon called "overshooting" which often corrects itself quite rapidly.

If what you've lost during this recent slowdown caused you to lose sleep then your investment portfolio isn't suited to your risk preferences or term of investment. Keep this lesson in mind the next time you decide on a certain asset allocation.