Human Behavior as Investing Stumbling Block
- Joshua M Brown
- May 30th, 2012
I highlighted the fact that Mark Dow had set up shop on Tumblr the other day. Hopefully you guys subscribed. His latest, about Europe, contains a really cool tidbit about how human nature works against us in general…
Starting about 15 years ago, I developed a strong interest in behavioral economics and evolutionary psychology. This came about when I started working in asset management and realized (1) how poorly economics was served by the assumption of ‘man as a rational maximizer’ and (2) how emotional and inefficient markets really were.
In the literature I ran into four takeaways time and time again. Specifically:
- We overestimate our abilities, our uniqueness, and our objectivity, even more so when under emotional strain. We have all seen the studies: 90% of people say they are above average drivers. Rarely do people think those around them work harder or better than they do. And so on…
- We systematically understate the role of ‘random’. We crave order, and we are willing to torture the facts to get there. But sometime things just happen, and sometimes problems don’t have solutions. No fundamental cause, no guilty party, no concrete answers. Moreover, on the up side, when random does break our way it’s appropriated as skill. The investment world is shockingly bad at separating outcome and process—yes, even those who drone on and on to prospects about their processes.
- People will find a way to believe what they are incented to believe. As the saying goes, “The most dangerous place to stand is in between someone and what they want to believe”. In my experience, it’s hard to overestimate the power of this statement. Starting with the conclusion and reverse-engineering the supporting arguments is central to the human condition and, surprisingly, serves and important role in our evolution.
- When presented with points 1, 2, and 3, almost everyone recognizes their validity, but believes at some level that he/she is exempt. The typical reaction is “Yeah, for sure, of course that’s how [other] people act”. It is always easier to see others’ mistakes than one’s own. And this is one of the reasons we have a very hard time changing our cognitive biases. All of us.
I had to learn this stuff the hard way, watching some of the worst investors of all time continually smack into the brick wall of their own bullshit day after day, year after year. it is not until you accept these inherent flaws in our makeup that you become a half-decent allocator of capital in the public markets.
OK, now go over to Mark’s site for the rest.
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The Reformed Broker is a blog about financial markets and the economy. Joshua Brown is a New York City-based investment advisor for high net worth individuals, charitable foundations, retirement plans and corporations... More.