Speculation in any stock market can destroy overall course of business. The effects of speculative trade are long term. Before going further, let’s enlighten the term “speculation”. It is an activity in stock exchange carried by the investors that shows tremendous and steep growth. The market shows sharp increases without any logical reasons or prevailing news. Actually it is backed by the speculative bubbles. Following are the most explicit signs to detect speculation in any stock market:
- Daily Volumes: If an investor seeks to compare daily trading volumes, it may come on the record that volume of trade is concentrated among a cluster of companies. Some of the stocks flourish by leaps and bounds while the others become static or declining.
- Short Term Investment: The speculators are never risk takers. They invest in dummy stocks and artificially improve their market value. In this way the stock market immutably reacts as positive environment.
- Blue Chip Stock Lose Comparative Value: The most explicit sign of speculation in a stock market is explained as loss of comparative value of blue chip stocks. In this phenomenon, the blue chip stocks which are compliant to market efficiency start losing their value while the dummy stocks become stronger to create a bubble.
- Economic Indicators: The economic indicators do not usually endorse the stock market performance. Economy shows the downward trend while the stock market starts showing healthy investment environment apparently. These indicators may include balance of payment (which is negative), inflation (increase), interest rate (increases), and detrimental fiscal deficit. All of these collectively may show a negative turn around but on the contrary the market gives a positive outlook.
- Increased Investments in Hedge Funds: Compliant to the past experiences (such as asset pricing bubble, US mortgage crisis, and Japanese currency bubble), increased investment in hedge funds drive the market towards bubble creating situation. Hedge funds are of unique nature due to which the stock market forces become inactive and speculation becomes easy.
- Market Outperforms Everyday: In the speculative situation, market outperforms everyday and new limits are defined scrupulously. This attracts the small and medium investors. This only depicts the apparent and perceptible picture, however analysts start predicting the event. But it is of no use because once the stock market forces are activated, they meant to complete their cycle.
When the speculation ends up and shows its results, it becomes a real trouble for policy makers and players of the stock market. It also significantly affects the financial system of an economy including Banks and Non Banking Financial Institutions (NBFIs). It happens because some of the investors invest in stock market on credit from banks or NBFIs. After bursting of the speculation bubble, the entire investment goes in vain. It tremendously affects the performance of the financial sector of a country because intense effects may include bankruptcy of the financial institutions. It results in economic downturn, unemployment, increase in inflation, decreasing interest of foreign investors, and lowering of living standards due to poverty.