Real economic growth has slowed to stall, even according to the official data. What will the central bank do now?
Ben Bernanke says,”the FOMC (Federal Open Market Committee] made clear at its June meeting that it is prepared to take further actions as appropriate to promote a stronger economic recovery and sustained improvement in labor market conditions in a context of price stability.”
Ben Bernanke and his “further action” of zero interest rates is making things tough enough for investors, without individuals having to battle their own brains. We want to believe things that aren’t true, such as that one guy with a printing press can fix the world. It’s like a drug, and it stimulates our brains in strange ways.
We’re all dopamine junkies, Barry Ritholtz told a packed house here in Vancouver at the Agora Financial Symposium. (If you couldn’t make it here, you can get the complete DVD and CD set of the event.) Stock traders seek dopamine surges just like gamblers, sex addicts, and alcoholics. But it is the anticipation of the reward that provides a pleasure the actual benefit can’t match.
Leaning on the work of behavioral economists, the Wall Street veteran, told the Agora crowd, that investors are biased toward optimism and tend to run in herds. So that we can face ourselves each day, we tend to forget our failings and focus on the positives. That may be good for self esteem but bad for learning from our mistakes in the investment arena.
Bernanke’s cheap money combined with the herding animal spirits is a certain cocktail to engender bubbles. Tragically, these booms are followed by the inevitable busts, creating regret that is the difference in investors minds between the value of what is and the value of what could have been.
This is important because of dopamine, which is a chemical in the brain that helps humans decide how to take actions that will result in rewards at the right time.
People don’t get a dopamine kick when they get what they expect, only when they make an unexpected windfall. So, as Jason Zweig writes in Your Money and Your Brain, drug addicts crave ever-larger fixes to achieve the same satisfaction and “why investors have such a hankering for fast-rising stocks with ‘positive momentum’ or ‘accelerating earnings growth’.”
Also, dopamine dries up if the reward you expected fails to materialize.
The brain has 100 billion neurons and only one-thousandth of one percent produce dopamine, but “this minuscule neural minority wields enormous power over your investing decisions,” cautions Zweig.
Dopamine takes as little as a twentieth of second to reach your decision centers, estimating the value of an expected reward and more importantly propelling you to action to capture that reward. “We’ve evolved to be that way,” explains psychologist Kent Berridge, “because passively knowing about the future is not good enough.”
The effect of all this is what Zweig refers to as “the prediction addiction.” Humans hate randomness. We want to predict the unpredictable, which originates in the dopamine centers of the reflective brain, according to Zweig, leading humans to see patterns where none really exist.
In their attempt to predict the future, investors place the most trust in confident prognosticators on TV, according to Ritholtz. However, the more confident the expert, the worse the track record. And forecasters that get one big forecast right are likely to underperform the rest of the time.
Mr. Ritholz used Elaine Garzarelli as an example. The Shearson Lehman stock analyst famously predicted the 1987 Black Monday stock crash, but has predicted little else right since.
We all tend to constantly feed our confirmation biases, seeking out experts that confirm our view of the world. We read writers that we agree with so that we can feel smarter, while ignoring or dismissing opinions different from our own.
Our brains are great for keeping us alive in the jungle. We look for patterns and motion. These instincts kept the cavemen alive, not to mention Wall Street’s technical analysts, but wreck the portfolios of investors.
Investors love a good story, but are vulnerable to anecdotes that mislead us, says Ritholtz.
No wonder markets are not sources of information, but instead sources of misinformation, according to resource investing guru Rick Rule. Conference attendees that rise early to attend Rule’s 7:00am workshops (he actually starts 15 to 20 minutes early) get lessons in overcoming the greatest problem investors have: the space to the left of their right ears and to the right of their left ears.
“The information that people derive from markets is spectacularly wrong,” says Rule, a devotee of legendary investor Benjamin Graham. Like Graham, Rule looks for undervalued stocks and only wants to buy them when they are on sale. Quoting Graham, Rule says, “markets in the short term are voting machines, while in the long term they are weighing machines.”
Housewives are much more rational buying groceries than investors are in buying stocks. While a housewife will turn her nose up at expensive tuna fish, she will load up on it once it goes on sale. Conversely, her investor husband, in Rule’s story, is happy when the share price of his favorite stock goes up and he buys more. When the share price falls, he doesn’t buy more, as his wife does with tuna fish, but instead sells out in disgust.
Speculators in junior resource stocks can either be contrarians or victims, Rule often says. It is the drill bit that answers the unanswered questions, not the market.
Bernanke’s market house of mirrors is enough to make investors throw up their hands in disgust. But as Agora conference favorite Doug Casey says about the economic climate, “it’s hopeless but not serious.”
Casey told a Wednesday afternoon audience that they must diversify politically and internationally, learn to speculate effectively, and do what he does, own lots of gold.
Buying gold is easy enough. Speculating effectively is a different matter. After all, we have our dopamine problems to overcome. But there is help. Avail yourself of hours and hours of the wisdom of Rick Rule, Doug Casey, Barry Ritholtz, Bill Bonner and many, many more.
Ben Bernanke is not going to make your life easier. Buy the complete Agora Investment Symposium 2012 CD and MP3 package today.