Saturday, October 30, 2010

Studying The Herd

A topic that fascinates me as much as any other is the psychology of market participants.  I have read countless books on the subject such as "Irrational Exuberance" and "Manias, Panics, and Crashes" to try and understand what causes people to make the wrong investment decision all at once, all together.  It is known as the herd mentality.

For a sales representative, the herd mentality is your best friend.  Stock brokers selling stocks back in the late 1990's had no trouble convincing new clients to pour their retirement into the stock market.

Real estate agents found that same opportunity in the middle part of this decade.  I remember thinking I was the greatest sales representative in the country at one point because my community was sold out of lots and we would have a lottery every Saturday morning to see who was lucky enough to purchase.

This past week the sales representative for one of my father's IRA accounts called him and told him that he needed more exposure to bonds.  I would imagine that most financial reps are making the same calls all around the country.  Why?  Because investors are currently pouring their life savings into bond funds.  It is the easiest sale out there.

All three scenario's will end the same: disaster.

But why?  How is it possible that investors could get destroyed in stocks, killed in real estate only 5 years later, then get run over by the bond bubble today?

The answer will continue to be a constant focus of mine because I want to understand how to better convince people to not move with the herd, but away from it.  The following NY Times article discusses this theory:

Microscopic Microeconomics

It is interesting to note the author points out that the current bubble is in gold, while the unmentioned real bubble in bonds is staring them directly in the face.  Perhaps the bond bubble can be the focus of their next study.

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