Explain how "herd behavior" affects the stock market, and contributes to recession

"Herd behavior" refers to the phenomenon that most people investing in the stock market tend to follow what other investors do. When purchasing securities is popular and widespread, members of the herd leap in, which accelerates the increase in securities prices. When buyers are optimistic, a high demand will drive up the prices of securities, and the investor is likely to buy more, and also likely be able to sell at a profit.

However, when securities prices fall, investors who leveraged their investments cannot obtain more financing for further investing, so they do not continue to purchase. The drop in investment activity will drive down the prices of securities even further. Investors unable to obtain financing are more likely to sell at any price. Herd behavior will lead other investors to also abandon the market, with the result that prices plummet further. When this happens, corporations of many kinds will be unable to raise the money they need by issuing stocks and bonds. They may need to cut back on production, and lay off workers. At this point, a serious recession is likely to be underway.