Question

• While many investors are trained to expect some risk, the huge and dramatic swings we have seen in recent years have been unnerving to many. Why is this?

Answer 1

While many investors are trained to expect some risk, the huge and dramatic swings we have seen in recent years have been unnerving to many.

We need to understand the components of risk.
Total risk = systematic risk+unsystematic risk.

Majority of investor are trained to expect a higher degree of failure due to unsystematic risk and a lower degree of failure due to systematic risk.

The recent dramatic swings like the financial crisis of 2008 and Bernie Madoff scandal of 2009. Has decreased the confidence of the investor because:

1. It was a systematic failure of the system. Majority of investor are unable to bear such type of risk as they don't think it's possible in the first place. It happens when "too big to fail companies fail".

When such a failure happens it creates a very negative sentiment in the market. When Too big to fail companies fail then investors can't trust mid and small-cap companies at all- that's the psychology at that time.

2. When trust is broken. The investor becomes very conscious before entering the market next time. When people with power misuse the power given to them against Public Interest. It creates Chaos in the market. People's lifetime savings go away because of it.
One such classic case is: Bernie Madoff scandal.

Bernie Madoff was an Investment banker, stockbroker and chairman of Madoff Investment securities.

1. Bernie Madoff is the man who created the modern market as we know it.
2. He created NASDAQ.

He was:
3.Chairman of NASDAQ.
4.Chairman of National Securities clearing Corporation.
5.Chairman of International Securities clearing Corporation.
6.Chairman of National Association of securities dealer.
7.Chairman of SIA trading committee. 8.Chairman of national business conduct committee.
10.Chairman of NASD.
11. Chairman of small order execution committee.
12. Member of SIA Federal regulations Committee.

From this we can understand the man's reputation. He was virtually like a God in the stock market.
He was running a Ponzi scheme through his firm Madoff Investment securities.
After the 2007-2008 financial crisis. He was unable to hold that Ponzi scheme as almost every one of his clients wanted to take the money out in the falling markets of 2008.
He was arrested in 2009 for running a $50 billion Ponzi scheme.

This 2 classic cases of systematic risk failure and Trust breach has let the retail investors lose confidence in the market.