Market disruption

From CEOpedia | Management online

A market disruption is a situation, in which markets stop functioning in usual way, consistently characterized by sharp and huge market declines. Market disruption can be the result of physical threats to the stock exchange or uncommon transactions. In both cases, market disruption causes overall panic and results in chaotic market conditions. The widespread effects of a market disruption are frequently entrenched in consumer and investor perceptions rather than a fundamental crash. As a way to limit market disruptions, large exchanges have established contingencies that automatically stop all trading upon indications of sudden substantial losses beyond a reasonable level.

The Types of Market Disruption

We differentiate between three types of market disruption: eroding, dominating and obsoleting. A market disruption can appear in three different ways.

  • The first of these is when the new product dominates a sub-category in a product market and then starts eroding the main category. There are two different ways in which erosion can appear. The product can create its own category within a given product market and proceed to dominate that category. Alternatively, it can enter on of the existing sub-categories as new entrant and dominate it.
  • Market disruption can also appear when a new product directly enters incumbents' main product market and immediately starts eroding their market share.
  • The third way in which market disruption can appear is when incumbents' offerings become completely obsolete.

Division of Market Disruption

Market disruption appears when a product is provided to such a market segment which is not being served by existing players in the industry. It can be of two kinds - low-end disruption and new-market disruption.

Low-end disruption occurs when the rate at which a product advances exceeds the rate at which customers can embrace the development.The disruptor enters the market with a low-cost offering with lesser features, since its performance exceeds the needs of certain customer segments. For example, Nokia phones provide their products to market segments which do not require premium phones like Samsung Galaxy phones or iPhones, which have high performance and special features.

New-market disruption addresses non-consumption in an existing category. Such a product is available for customers in such a way that its competitor products aren't. It could be more affordable, available in more places, in more diversities, etc.

The Factors that Can Cause Market Disruption

Market disruption can occur if there is a major declined driven by fears among investors who believe specified factors may cause widespread issues that would complicate the flow of business. For example, if war threatens the safe operation of oil rigs in a region that is crucial to the industry, it can trigger worries about access to this resource. Natural disasters can likewise cause significant disruptions if they appear in locations that are also vital to an industry and force the halt of production indefinitely.

Political action and policy changes can also cause crashes that lead to market disruption. If federal authorities adopt a stance that is viewed as detrimental to an industry or industries, and the effects would be widespread and immediate, the market could see a rapid sell-off of shares. Such political action might include changes to trade and tariffs on imports. It can also include policy changes that may lead to overall problems between countries. If a nation withdraws from international arms treaties, for example, it can change the attitude of the participating countries and cause a panic of deeper repercussions that could be harmful to international trade.

Examples of Real Life Market Disruptions

It's perhaps easiest to understand disruption when we look at real-world examples of it in action:

  • Wikipedia

For centuries, encyclopedias were written and published for profit. You'd have to pay a lot of money for a few hundred pounds’ worth of hard-cover volumes, and hope that it lasted more than a year or two of relevance before its important details were updated. Wikipedia is updated regularly, and is available for free, though it didn't carry much trust at first.

Approximately new on the market, King Price Insurance appeared as an alternative to conventional car insurance plans. Unlike typical insurance policies, King Price Insurance offers insurers policies with gradually reduction of contributions, in line with the depreciation of your car's value. The model takes more data into account than traditional insurance policies, and targets a smaller market with lower gross profit margins to offer a superior service.

  • Skype

Currently Skype is commonly used communication platform, but in the past its service was really disruptive, because users all over the world suddenly were able to chat, call, and video chat with each other for free (or for very low fees). Originally targeting a small market of users, Skype has grown to have more than 74 million active users - and it's entirely replaced mainstream forms of communication for some customers.

Advantages of Market disruption

Market disruption can bring several advantages, such as:

  • Improved market efficiency, as there is a greater chance that all market participants will have access to the same information. This leads to better pricing of securities and more accurate valuations.
  • Increased liquidity, as more investors enter the market to take advantage of market disruptions.
  • Reduced transaction costs, as the competition between participants intensifies, leading to lower trading costs.
  • Increased transparency, as market disruptions often lead to greater disclosure of information.
  • Increased competition and innovation, as market participants search for new opportunities to capitalize on market disruptions.
  • Increased investor confidence, as the market is perceived to be more stable and efficient.

Limitations of Market disruption

Market disruption can cause many problems and may have a severe impact on economies and people’s lives. Here are some of the main limitations of market disruption:

  • Loss of investor confidence: Market disruptions can lead to a lack of investor confidence, which can have a negative long-term impact on the markets.
  • Market inefficiencies: When markets become disrupted, prices may not reflect the true value of assets, leading to market inefficiencies.
  • Volatility: Market disruptions can also increase market volatility, which can create uncertainty and make it difficult to plan for the future.
  • Loss of liquidity: Market disruptions can also cause a decrease in liquidity, which can lead to a decrease in the market’s ability to absorb shocks.
  • Systemic risk: Finally, market disruptions can lead to systemic risk, which is the risk that one disruption could spread and cause other markets to become disrupted as well.

Other approaches related to Market disruption

The following are other approaches to minimizing market disruption:

  • Regulation: Governments and regulatory bodies can introduce laws and regulations that aim to reduce market disruption, such as limits on high-frequency trading, insider trading, and other market manipulation.
  • Market Design: Exchanges and other market participants can design market structures that limit the potential for disruption, such as circuit breakers that stop trading when a share price moves too quickly.
  • Market Monitoring: Regulatory and supervisory organizations, such as the U.S. Securities and Exchange Commission, monitor the markets to detect and prevent market disruption.
  • Market Education: Financial literacy and education can help to reduce market disruption, as investors and traders better understand the markets and the risks associated with them.
  • Risk Management: Risk management techniques can help to reduce the potential for market disruption, such as portfolio diversification and hedging, which can help to cushion the potential losses from market disruptions.

In summary, there are a variety of approaches to reducing market disruption, including regulation, market design, market monitoring, market education, and risk management. All of these approaches can help to limit the potential for market disruption and promote market stability.


Market disruption — recommended articles
Systematic risk — Barriers to exit — Opportunities and threats — Economic risk — Barings bank collapse — Economic obsolescence — Capital Base — Examples of threats — Cash is king

References

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