Market's Teeter-Tottering Suggests Investors Are Overreacting to News

After marching more than 115 points higher on Tuesday, the Dow Jones Industrial average fell more than 122 points in Wednesday's market sell-off, prompting some analysts to suggest investors may over-reacting to financial news.On Tuesday, the Dow surged 115.78 points, the S&P 500 was up 14.20 points and the Nasdaq advanced 32.41 in anticipation of Republican Scott Brown's stunning victory in a Massachusetts Senate race. On Wednesday, the news about the Chinese government curbing its lending policies, Brown's victory in the Senate race and several earnings reports sent the Dow careening 122.28 points, the S&P 500 down 12.19 points and the Nasdaq sliding 29.15. The Dow was off as much as 207 points in morning trading but recovered in the late afternoon.

Worries About Global Recovery

"The market was up yesterday because it was perceived during the day that Brown was going to win," said Uri Landesman, head of global growth at ING Investment Management. "Today we have this disaster," he continued, referring to news that the Chinese government had asked its banks to begin pulling back on lending. Landesman said the news from China is causing people to believe the global recovery will be delayed, or weaker than expected, and that the overall demand for commodities will be lower.

"US investors tend to overreact any time there is any mention of any change in China policy," says Bob Froehlich, senior managing director of The Hartford. "Slowing down China isn't going to change anything."

Froehlich points out that since China is averaging annual double-digit growth, a little tightening on lending won't scuttle their economy. Landesman adds that signs that China continues to do things to avoid potential asset bubbles could be seen as good news, not necessarily a cause for concern.

Senate Upset Rocks Market

While concern for China was the top market mover on Wednesday, Brown's victory in his Senate race also contributed to the market selloff. After pushing up health-care stocks in anticipation of the Republican victory, investors now face new uncertainty. "While it looks very much like there won't be a single party health care reform bill rammed through, there still is the question of what type of healthcare plan there will be," Froehlich said. He said healthcare related stock pulled back from their highs due to the uncertainty.

And earnings news from a slew of companies also contributed to the market reaction on Wednesday. Disappointing earnings reports from IBM (IBM) and Bank of America (BAC) pushed the market down, but solid reports from financial Wells Fargo (WFC) and US Bancorp (USB) eventually helped financial stocks become the markets best performers.

Froehlich said those who cast Bank of America's earnings as disappointing based only on the numbers were missing the point. Investors failed to pick up on the positive trend for financials moving forward.

Investors Still Shell-Shocked

"The silver lining for me in the whole day is that BofA said that they think that their credit problems are behind them," he said. "That should have been a huge positive."

It wasn't seen as a positive because investors are still shell shocked due to loses suffered over the last 18 months, and many are selling at the first sign of trouble. Landesman says we are probably in a cycle where "buy on the rumor, sell on the news" has taken hold. "What you are seeing is classic tug of war between the bulls and the bears," he says.
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