Is investment diversification attractive because of widespread uncertainty?

“Clearly, then, the market is irresolute. But why?

The always-thoughtful financial columnist James Surowiecki, in the latest issue of the New Yorker magazine, takes a stab at answering this with the help of academic research revealing that investors faced with losses and uncertainty often exhibit more pronounced ‘herding’ activity, and may make bigger bets to try to get even. No doubt these factors are at work, as are the quicksilver computer-propelled trading tactics that seek to capture returns from the mere ‘noise’ of the market, without implementing a broader investment view.

Yet it’s important to remember that when economic and monetary trajectories are in doubt, almost every data input is a pretty big swing factor. Sure, it seems silly that the present value of the aggregate equity base of Western capitalism should frequently change in price by a couple of percent a day, but so many of the questions the market is trying to answer have almost binary outcomes for intermediate-term stock performance. The market’s job is to impatiently and sometimes rashly turn the rudder, based on every stir of breeze.

Recession or not? Will housing troubles drive further write-downs and erosions of the banking system’s capital base? Will the government rescue Fannie Mae and Freddie Mac? Is the stronger dollar a tailwind or a tax on U.S. stocks? Can the inflation data give the Fed the room it wants to leave rates low? Are oil prices resting or entering a long decline, or…?”