Money Matters

Human beings enjoy the social interaction of conversation, both real and virtual (Facebook and Twitter, for example). Irish people like to talk about subjects that excite us, interest us and worry us.

Investments, financial markets and economics now pepper our daily conversations. There are also dedicated financial news channels available here on satellite.

Within an hour of watching CNBC or other financial news channels, you are bombarded with the notion that in investing, speed is of the essence. You think that you need the fastest broadband so that you can trade on the fastest online trading platform. However, making split-second decisions after watching financial news may be about as rational as buying a ‘diamonique bracelet’ on Gems TV or a discounted watch on QVC. It is not investing; it is more akin to gambling and probably triggers the same emotional and biochemical reactions as the endorphin rush experienced by problem gamblers.

Media outlets race to be the first to report events as they happen. Investors then rush to trade on this news with a herd mentality. As you learn what other people think about various shares, a social consensus forms. As people act on this consensus, a herd forms. Investor herding is not unlike that of the antelope on the savannah. Antelope stay together in herds to protect themselves from predators such as lions. One minute the herd is doing nothing; the next minute the herd is in full gallop. An antelope’s senses are such that it knows what the herd is doing; it does not want to be left behind.

The problem with moving with the herd is that it magnifies psychological biases. It causes us to make decisions based on the herd’s emotions rather than on financial analysis. Therefore, the herd can affect the overall market. The ‘irrational exuberance’ for Internet-related companies in the late 1990s is an example. From mid-1998 to mid-1999, 147 publicly traded companies changed to a new name with a ‘.com’ or ‘.net’ or a name that included ‘Internet’. During the three weeks after a name change announcement, these firms’ shares beat the market by an average of 38 per cent. Even firms with little or no web focus changed their names and experienced large stock price gains. The dot.com obsessed herd bid up these share prices and these gains lasted for a number of months. After the technology bust in 2000, 67 companies removed the dot.com reference. This reverse name change was then associated with an average 64 per cent gain during the subsequent two months.

To conclude, people do want to talk about investing. But this social interaction can lead to herding. New technology may only be the rallying cry for the herd.