the psychology of investment

the psychology of investment
mysteries of psyche

In my experience, trading results tend to be positively correlated with your level of detachment from money and stock prices. I believe this is the closest thing to a magic formula you'll ever encounter (obviously not counting frauds). If you doubt this premise, I encourage you to try it yourself. When you have no active investments, pick a number of stocks - as you would do normally - and see if, and how, the results of your picks differ from the norm. Also try to predict what price your stock picks will reach in the short term (I've never tried long term predictions as there are too many variables, such as political and macro-economical ripples), whether it's the next minute, hour or day. Chances are that you'll be amazed! Just don't make the mistake of believing that one can replicate these results with money involved. Implementing such a strategy when your hard earned money is on the line is next to impossible.

I have a background as a Jungian analyst, and as such, I can't help but to look at markets from a psychological perspective: that is both interesting and revealing. After all, markets are nothing but the sum of every participant's feelings. This is implied both by economic theory as well as empirical studies. For the scope of this article, we'll assume that you agree with this statement, but if you'd like me to elaborate, just let me know! There are many reasons why I've decided to write financial software. One of them  being the phenomenon described above. I consistently make better investment decisions when I'm emotionally detached. Unfortunately, being completely detached means being completely uninvested. While a solid understanding of psychology helps a little in this regard, it's not enough. Software, on the other hand, is as detached as something can be! 

Institutional investors have an automatic advantage in this regard, since they aren't putting their own money on the line. Actually, risking your own money - even when you can afford to lose it (and, seriously, who can?) - is likely to be the largest single cause of investment losses. For example: it takes a lot of nerves to buy when everyone is selling and the price is plummetting or, for that matter, to sell when everyone is buying enthusiastically. It is not enough to do the opposite of one's instincts: as we all came to learn, the reality of investing is a lot more complex. As complex as the human psyche, of which markets and investment decisions are a mere reflection. Knowing this gives one a sense of perspective but, whether we like it or not, we're all slaves to our own psychology. 

Did you ever regret doing something which seemed like a great idea at the time? Why is hindsight always 20/20? Why does every bull market end in "irrational exuberance"?

The short answer to these questions is that the human psyche is very complex. While we're all different (though, to some extent, we all fall into certain personality types, or more accurately, ways in which we interact with the world) and we can discern a lot about our inner life, for lack of a better term, at the end of the day, our psyche remains a mystery (anyone claiming differently is either fooling you, or himself). The same applies to financial markets. Prices go up when people feel good, prices go down when the collective (or even a majority) feels bad. I'll forego - at least for the time being - the concept of a collective, unconscious, mind (to which, being Jungian, I am happily married and of which I could give many examples - including the markets themselves).

But this simple dichotomy quickly falls apart and becomes hopelessly complex the deeper you go. What does "feeling good" actually mean? Any psychologist worth his two cents can give you a lengthy explanation, but you'd probably know as much - or as little - as you did before. A programmer would say that the number of variables - which influence each other at any given time - makes the problem too difficult to compute, or solve.

Wouldn't it be great if we could take moods out of the equation? While we cannot change the collective mood (well, actually you can to some extent, simply by feeling good yourself since we're all part of that collective) of market participants we can learn to notice, and pick apart our moods. A straight-forward example: as I was writing this, news of the Corona-virus outbreak was generating headlines. Independently of whom you believe (yours truly has seen nothing yet to indicate that it is any worse than the common flu), such headlines provoke fear, and fear translates into selling your stocks and taking your profits (or limit your losses). While this example is certainly oversimplistic, it serves to illustrate the point: emotions are what drives markets, not facts. Even if you don't acknowledge this (many don't), I fail to see reasons why anyone would want emotions (not to be confused with intuition) to play a role in their investment decisions. Some degree of detachment - which is considered a virtue in both Western and Eastern religious and mystical traditions - can hardly hurt. After all, human beings have more than enough emotions to go around. Imagine a world where all your investment decisions are based on facts and rational thinking - with a bit of intuition for good measure - instead of feelings and emotions. It would be a world where you can buy cheap and sell high - or at least stand a much better chance of doing so. Just as important: it would be a world where you can sleep well at night and feel good holding a stock even if, for the time being, everyone is selling it as if there were no tomorrow.

Of course there are many ways to banish emotions. For example, you can turn control over to someone else - be it a friend, or your bank - but you wouldn't be reading this if you were that kind of person, not to mention that it's not advisable. Still, you'd probably want that someone to be good with numbers, and make sure he does his homework (so to speak). But will he make good decisions? Better than yours? All too often the answer is no (after fees and expenses very few brokers manage to beat the market). But, with control over your decisions, how can you be detached? You can try the usual suspects: meditation, mindfulness, yoga or, if so inclined, crystals and patchouli (as long as it works for you, nothing wrong with that). But there's an easier and more reliable way: software. It won't completely turn off your emotions (not something I'd advise, if you value society and human relationships) but it might save you costly mistakes and let you get that beauty sleep by offering clear, rational information on which to base your investments. That's how institutional investors act, and the opposite of what the average retail investor does. If you don't need that, good for you! Consider yourself very lucky or very skilled (if the latter, please share your secret with the rest of with us).

Don't get me wrong: software or no software, it is - and always will be - hard to hang-on to a stock when the price has dropped below a certain (psychological or financial) pain threshold. However, with a thoroughly researched business, which is under solid management and has a good balance sheet, most of the time that's exactly what you should do. Investment will never be for the faint of heart, but it doesn't have to be a casino - where the bank always wins. If software could evaluate - and not just screen - stocks based on your input, and present you with all the information you require to make an informed decision, wouldn't that be great? The bad news is, that it will take another while (read our mission statement for more information) to get there. The good news is, that we've made it our goal to do precisely that. Even better: you'd be surprised how much information hides in the data - which no single human being can thoroughly evaluate in a useful time span. 

If you want to help ensure we get there, and speed-up the process a little - or a lot  please help us by making a donation.