Causes of Panic Selling, Reasons for Panic Selling

Friday, November 13, 2009

Causes of Panic Selling

Panic selling is characterized by frenzied selling of investments with least regard to the prices obtained. This very often results in a great decline in the price of the instrument; panic selling is spurred by anxiety and emotion, rather than by discretion.

Panic selling usually starts with a strong extended bull market. Some securities/sectors become the leaders of this bullish trend, they are extensively highlighted by the media, and they make the investors/traders feel like they will never drop in value (eg: the dot com companies of the dot com bubble period). In due time the traders will realize that the market/security is not as strong as they expected or is overvalued; and is going to fall. A bad news or under achievement info triggers the panic selling and eventually markets fall.

There are many reasons for panic selling, most of which are related to human behavior.

Fear of loss - Optimism and greed are the main human emotions driving the markets to new highs. But in higher levels, the optimism diminishes and doubts about the future arise. This leads to fear of losing money and the tendency to close off the positions as early as possible.
Fear of missing an opportunity - many times this emotion is stronger than fear of loss. Most investors want to beat all others around them, thus quick and senseless decisions are often made.
Search for leadership - Trusting a few media persons or market gurus without doing your own research can be devastating, because as they fail all (most) followers fail.
Laziness - Investors and traders often forget to do the basic trading fundamentals like proper portfolio management and risk management.