For J. P. Morgan Chase, the trouble started on Monday, July 22nd, when a Senate subcommittee raised questions about the role that the bank, along with other institutions, played in helping Enron set up a "maze of financial transactions that . . . makes Rube Goldberg look like a slacker." Investors, keenly aware of what helping Enron had done for Arthur Andersen, began dumping J. P. Morgan stock. Things got worse the next day, when rumors—of criminal prosecution, huge fines, a bad bet on gold—started to circulate in the market. The stickiest of them maintained that the bank had suffered giant losses in its derivatives business and that the Federal Reserve had held an emergency meeting to address the potential fallout. Never mind that these vague scenarios lacked sense (and, as it turned out, substance). They rippled across trading floors and surfaced on the Web, giving rise to the broader rumor that J. P. Morgan Chase was facing a liquidity crunch—that it might not have enough money on hand to meet its obligations. This is not a good thing for a bank. By Wednesday morning, the company's stock had fallen to its lowest price in six years. The rumor mill was grinding J. P. Morgan Chase into very fine pieces.
Rumors, of course, have been grist for the Wall Street mill since the first shares were traded beneath the buttonwood tree, but they have been especially nettlesome since the Enron story broke. Gordon Allport, in his classic work "The Psychology of Rumor," noted that they tend to flourish when there's a dearth of news and also when there's a glut—when the truth is most elusive. That about describes the market these days: there's a ton of news, but we all suspect that there's something—probably something very bad—that we don't know yet.
The most insidious Wall Street rumor is one that is deliberately planted in order to move a stock. Starting such a rumor is technically illegal, but people on the Street engage in this low-grade information warfare all the time, especially when investors are skittish. "In this market, the path of least resistance is downward," an analyst at a major mutual fund said last week. "So it's not that difficult for some yobbo at a hedge fund to sell a stock short, tell someone on a trading desk that he's heard that the company's about to blow up, and then sit back and watch the news work its way through the market."
Once a stock starts moving, more rumors spring up to explain why. One day two weeks ago, the conglomerate Tyco saw its stock—which had been shaky for days—begin plummeting at the opening bell. "I called around to our salespeople trying to find out what was happening," the analyst said. "Some of them were hearing that Tyco was going to declare bankruptcy. Now, this was an absurd rumor, but calling around about it helps keep the rumor going, because the guy sitting next to the salesperson hears something about bankruptcy, and the guy I'm talking to at a different firm gets the news. It's viral. There may be nothing really happening, but if you ask enough people someone will come up with a good story."
Even far-fetched rumors get a hearing these days, because much that was unimaginable a couple of years ago is now, after Enron and WorldCom, all too credible. "If you look at Tyco's numbers, the only way it could be on the verge of bankruptcy is if it was completely lying to us," the analyst said. "But there are lots of people out there who find the idea that a company is completely lying perfectly plausible." That's especially true of a company like Tyco, whose former C.E.O. was indicted two months ago for tax evasion. On a conference call that was hastily arranged to combat the rumors, Tyco's C.F.O. admitted as much: "We realize that, given our events over the past six months, we have given fodder to Tyco stories in a very nervous market."
Still, even a plausible rumor needs help. If the people who hear it first respond by buying or selling stocks, the rumor takes root. If they don't, it won't. On Wall Street, information is conveyed through price. Whether a story is true or not is almost beside the point; if it can move a stock, it's true enough—at least, until something comes along to contradict it. With the Tyco bankruptcy rumor, that happened when the company announced, after the market had closed, that it had appointed a new C.E.O.; the next day the stock jumped forty-six per cent. Investors who'd sold on the rumor missed out. And J. P. Morgan bounced back, too, after it explicitly denied the rumors about its problems. (The firm also says that its dealings with Enron were legal.)
What we're seeing today is the mirror image of the hysteria that gripped the market three years ago, when stocks were routinely propelled upward on the flimsiest of positive rumors. Then the key strategy was "pump and dump." Now it's "short and distort." The result is that the market's reaction to a hint of bad news is quicker and more dramatic than its reaction to good news, a pattern that fits what social scientists have found: people generally assign more importance to negative information than to positive information.
"Rumors are noise," Michael Mayo, a banking analyst at Prudential Securities, says.These days, however, noise matters. The rise of momentum investing—buying stocks as they rise, selling them as they fall—and of minute-by-minute market coverage in the media has made rumors more contagious and more potent, exacerbating investors' tendency to herd. As a result, stock prices are swinging more wildly than ever before. In 1913, during the heyday of stock pools and insider trading, the market observer Harrison Brace wrote, "Calculations and statistics of great pith and moment are disregarded in the scramble for tips, rumors, and surface indications." Sounds familiar, doesn't it?
