Excellent take from former Magellan fund manager Peter Lynch:

“If the professional economists can’t predict economies and professional forecasters can’t predict markets, then what chance does the amateur investor have? You know the answer already, which brings me to my own ‘cocktail party’ theory of market forecasting, developed over the years of standing in the middle of living rooms, near punch bowls, listing to what the nearest ten people said about stocks.

In the first stage of an upward market – one that has been down awhile and that nobody expects to rise again – people aren’t talking about stocks. In fact, if they lumber up to ask me what I do for a living, and I answer, ‘I manage an equity mutual fund,’ they nod politely and wander away. If they don’t wander away, then they quickly change the subject to the Celtics game, the upcoming elections, or the weather. Soon they are talking to a nearby dentist about plaque. When ten people would rather talk to a dentist about plaque than to the manager of an equity mutual fund about stocks, it’s likely the market is about to turn up.

In stage two, after I’ve confessed what I do for a living, the new acquaintances linger a bit longer – perhaps long enough to tell me how risky the stock market is – before they move over to talk to the dentist. The cocktail party talk is still more about plaque than about stocks. The market is up 15 percent from stage one, but few are paying attention.

In stage three, with the market up 30 percent from stage one, a crowd of interested parties ignores the dentist and circles around me all evening. A succession of enthusiastic individuals takes me aside to ask what stocks they should buy. Even the dentist is asking me what stocks he should buy. Everybody at the party has put money into one issue or another, and they’re all discussing what’s happened.

In stage four, once again they’re crowded around me – but this time it’s to tell me what stocks I should buy. Even the dentist has three or four tips, and in the next few days I look up his recommendations in the newspaper and they’ve all gone up. When the neighbors tell me what to buy, and then I wish I had taken their advice, it’s a sure sign that the market has reached a top and is due for a tumble.”

-Peter Lynch, One Up On Wall Street

Hat tip Jeff Saut

Category: Markets, Psychology

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

27 Responses to “The Cocktail Party Market Indicator”

  1. SivBum says:

    So, are we in stage three? If the asset inflation is largely due to QE-2, we may have leapfrogged stage three and in stage four now.

  2. colfaxcapital says:

    Thats OK. Peter Lynch is a peckerhead who wouldn’t be any better than an average asset manager if he started off today. He’s a cheap Mo’Fo, too….awful tipper. Just ask anyone.

  3. IS_LM says:

    I seem to recall some guy called this animal spirits at some point. I can’t remember who it was, however, or when he said it.

    ~~~

    BR: First John Maynard Keynes said it, and it was repeated by Robert Shiller

  4. aman86 says:

    Leaving stage 3, on the way to stage 4 …

  5. Max Jackson says:

    Great little social analogy on what The Intelligent Investor would do.

  6. Mike in Nola says:

    BR, I don’t go to cocktail parties; but you must. Whaddaya hear?

  7. drey says:

    “BR, I don’t go to cocktail parties; but you must. Whaddaya hear?”

    I’m more interested in the conclusions that BR draws from TBP comments and traffic – do they tend to be a contrarian indicator as in Lynch’s story?

    Isn’t TBP just an online cocktail party? (granted we need more booze and women)

  8. postman says:

    I do recall a couple of times in 2010 when the S&P was in the 1050-1100 range and it appeared that major support slightly lower would be taken out. Overall, this board was very bearish.

    Then the market rallied sharply.

  9. Sunny129 says:

    Until June (expiration of QE2) every one is betting on Ben& Co. Nothing else matters!

  10. gordo365 says:

    I go to cocktail parties. Nobody talks to me. Everyone is standing near the bathroom typing on their cell phone. What does it mean??? :)

  11. epupo says:

    I would have to say that I dont even think we are in Stage 2 yet. The market hate out there is palpable among the larger populace who have burned twice now by bubbles in the past decade.

    While I think greed is always a psychological factor where the heck is the evidence that the retail investor would want to jump into the market at this point, especially 2 1/2 years after the mess we crawled out of?

  12. BennyProfane says:

    @epupo

    The thing is, they finally are jumping in. Warning bells should go off with that one.

  13. franklin411 says:

    @Drey
    TBP is not a virtual cocktail party. By “cocktail party,” Lynch is referring to the general public–*especially* people who don’t normally dabble in investing etc… He’s saying that the average person is terrified of the market at the bottom, and they’ve got Stock Market Fever at the top.

    Perhaps a better analogy today would be going to Starbucks and just listening in on people’s conversations. I *never* hear anyone talking about investing or stocks. Most of the serious conversation I overhear is about friends and family members having a hard time finding work, or about the latest wingnut project to give us back “our America…just like it was when being a Klansman wasn’t frowned upon.”

  14. gringo says:

    Anybody see any geopolitical issues out there. Little blip today send the Dow south pretty quickly. Is it the wildcard ?

  15. louis says:

    Only thing I hear at Cocktail Parties is someone talking about how much they paid for their house followed by hysterical laughter.

  16. ashpelham2 says:

    As I tell all of my clients in the market: the trick isn’t knowing that we are in a bull or in a bear; rather, when the change happens. That’s where the money is made and lost. Lots of people were worth a lot more when the housing market was a bull. Now, house rich and wealth poor. We are certainly in for a nice correction sometime soon. Gotta think it’ll be 2011. I’d put the correction happening sometime in the 4-6 months after the Fed takes a subtle step to remove itself from fiscal handouts. I don’t know when or in what capacity. Again, that’s where the money will be made.

  17. ashpelham2 says:

    I don’t go to too many cocktail parties, but I’m usually too busy trying to hit on someone who isn’t my wife to spend much time thinking about stocks and markets and what-not! When I leave the office, I REALLY leave the office!

  18. call me ahab says:

    “just like it was when being a Klansman wasn’t frowned upon.”

    if it wasn’t frowned upon- why would they wear hoods franklin?

    Wouldn’t they just walk around in the open with their Klan T-Shirt?

  19. Bill W says:

    Do we need to have stage four enthusiasm for the stock market to induce a stock market crash, or can it come from some other asset class?

    In 2006, I think we reached stage four in real estate. I don’t remember enthusiasm for the stock market getting that high.

    Could we soon see stage four enthusiasm for commodities? I think it’s possible. The crowd is convinced that commodity prices are moving higher because of QE2, and that QE will continue into infinity. It has greed and fear written all over it.

  20. drey says:

    @Franklin

    I don’t disagree that the average TBP reader/poster has a higher economic/market IQ than the general public. Still, it seems to me that there have been times in the past when the runaway bearishness on this board might have been as good a buy signal as any…

    I’d like to hear Barry comment on this but he’ll probably choose to be coy on the subject.

  21. Jack says:

    Does he ever get asked what the asshole ratio is among his customers? Or his cocktail party people?
    For that matter, how many times he gets called by that name?

  22. daf48 says:

    Everything is vanity.

  23. ricecake says:

    What’s that Golaman Guy’s name(?) who was on bloomberg today saying that Dow will go up to above 15000 or s&p500 will up to 1500 by year end. So sounds like we are approaching to stage 4 by year end.

  24. ricecake says:

    p.s. Guessing: May the Fed will unleash QE3 in July or August so Dow will shot up to 15000 by year end.

  25. Andy T says:

    Perhaps a better analogy today would be going to Starbucks and just listening in on people’s conversations. I *never* hear anyone talking about investing or stocks. Most of the serious conversation I overhear is about friends and family members having a hard time finding work, or about the latest wingnut project to give us back “our America…just like it was when being a Klansman wasn’t frowned upon.”

    Franklin, you’re cementing your reputation as the biggest fucktard on the BP boards. Congratulations….

    Stay Thirsty My Friend.

  26. MorticiaA says:

    As “luck” (no, more like “punishment”) would have it, I attended a hoidy-toidy cocktail party last night. I dropped by a conversation about Egypt, and here’s the sound byte I took away: “It’s nothing but a struggle between the haves and the have-nots.”

    Kid. You. Not.

  27. [...] An absolute classic, by way of Barry Ritholtz at The Big Picture.  I know, not quite as exciting as the Sports Illustrated Swimsuit Indicator.  Hard to say what stage we are at, but it’s clearly not stage four! [...]