May 29, 2014

    What makes a healthy level of speculation?

    THERE is a school of thought among some stock market participants that a major factor behind the absence of retail players this year is an overly strict regulatory regime that makes it difficult for activities under the broad umbrella known as "speculation" to flourish.

    The retail segment, it is believed, prefers as far as possible to partake of a more speculative, less regulated market, where stocks - to use an extreme example - can double or treble in a day or two, thus offering massive excitement and contra profits.

    Not for many the traditional "buy and hold" maxim applicable to "investors" who are prepared to reap their rewards over the "long term"; it is thought that the typical retail punter wants to buy today and cash out tomorrow with a large contra profit.

    So it is that proponents of this view say that the market finds itself in its current moribund state, bereft of meaningful retail money because the authorities have tightened the regulatory screws too much in the wake of October's penny stock debacle.

    It is important to note that the penny bubble that was deflated in October was no different from the many that had preceded it, such as the bubbles in Clob International in the 1990s, the tech bubble during the dotcom boom and S-chips after the turn of the century.

    They shared the same characteristics - stocks with no fundamentals were "played" by "operators" to stratospheric heights, in the process posing growing risks to a market bent on maximising profit in the shortest time possible.

    Such bubbles cannot last and the larger they grow, the greater the pain when the plug is pulled. If anything, regulatory intervention was sorely needed.

    A second qualifier is that while all markets need gamblers and speculators to provide liquidity and volatility, there has to be strong regulation to ensure a level playing field, especially so in a market where investors have placed considerable amounts of their life savings, Central Provident Fund (CPF) money.

    You cannot lower regulatory standards and allow speculation to run riot when retirement money is at stake - even though there are caps in place on the amount of CPF that can be used for stocks. A responsible regime has to do its utmost to preserve order and discipline while encouraging "investment" in the strictest meaning of the word.

    There is no denying that some speculation is needed to give daily trading that shot in the arm - the question is how much. There are no easy answers: tighten too much and business gets curtailed (as is the case now); relax too much and you risk being blamed for falling asleep at the wheel.

    For example, does high-frequency trading, often criticised for being a purely speculative activity, have a role here? If so, should the activity be regulated - perhaps by means of a financial tax (which is the case in many other countries)? What about contra trading, perhaps the epitome of all speculative activity but one which retail players crave?

    For its part, SGX should seriously consider gathering feedback from its frontline representatives on such issues, namely the brokers and remisiers whose role it is to sell the Singapore market to investors.

    These are professionals who have intimate knowledge of what makes the local market tick, so their input in figuring out how much speculation is acceptable would be useful.

    In an ideal world, the market should be filled by "buy and hold" investors who are in it for the long term but there should be some room for short-term punters too. It is true that in the long term we are all dead, but to paraphrase fund manager Marc Faber: "We are all doomed - but this doesn't mean we can't make money along the way."