Seeing Your Brain for the Master Manipulator it is

How often do you look at your investments? Once a week? Once a day? Every 30 minutes?

In Jason Zweig’s book Your Money and Your Brain he quotes a study by Money magazine that found 22% of people look at their investments every day while 49% look once per week.

On the surface this doesn’t seem like a big deal. But we’ll break down that assumption quickly.  Let’s first go to the brain.

Your Brain loves Patterns and Problems

Our brains are pattern seeking and problem solving machines. It is what they have evolved to do. It is so inherent in us that we rarely ever think about it but we are constantly doing it.  And it’s a good thing too.  This pattern seeking and problem solving nature has been vital to our survival throughout human history.

For example, think about when you hear leaves rustling at night. Your brain lights up and you are more alert.  There are many other sounds reverberating  through your ear drums at that moment, the sound of birds, of kids playing next door, of an air conditioner kicking on or a car driving by.  But none of those sounds trigger the alertness that the rustling leaves do.

Why?

It’s because your brain has evolved to attribute leaves rustling with some sort of potential threat. So you hear the leaves and your brain knows it needs to pay attention to that sound, while disregarding the others.  Your brain recognizes the pattern of leaves rustling with potential danger, so it solves the problem and heightens awareness.

So be glad your brain does this for you, but that’s where the good news ends.  Because as good as these brain functions have been for our survival, they are equally as bad for our investments.

 

Down the Rabbit Trail

So what does leaves rustling and looking at our investments daily have to do with anything?

Humor me for a few more sentences as I try to drive it home.

If our brains are constantly seeking patterns and trying to solve problems. And we are looking at our investments once per day. Our brains will subconsciously begin looking for and finding patterns in the randomness of the stock market.

Once this happens, we will attempt to solve the problem of how best to benefit from this new found pattern.

The problem is, our brain just created a pattern and solved a problem THAT WASN’T EVEN THERE.

There is no pattern to the stock market, thus there was no problem to solve. But by looking at our investments too often, we allowed our brains to fool us into thinking there was.

The Rule of 3

It has been shown that our brains begin predicting the future after just three data points. So, if the market goes up 3 days in a row, you will find yourself predicting the 4th day. Either you will think it will continue to go up because it is on a ‘hot steak.’ Or you will think the ‘hot streak’ will be broken and so it will go down. The point is not what the stock market will do but that you will try to predict it at all. If there is one thing I have tried to talk about more than anything else it is the fact that the markets are completely random. One day has absolutely no bearing on the next. And trying to predict the market is like trying to read yesterday’s paper for tomorrows news.

Heads or Tails

To explain this further, I want to look at a couple examples Jason Zweig uses in his book. First, with a coin toss.

If you see these results, HHHHHHHHH, what would you expect to see next? Heads or Tails?

Whatever you chose, do you see the inclination to predict the future based on past results? When the truth is both H & T have exactly the same probability of occurring next in the sequence. Each has a 50% shot.

But our brains are tricky. And they trick us into thinking we have seen a pattern when there is not one.

Let’s look at another example. Tell me which is more likely:

HHHHHHHHHHHHH

HHTHTTHHTHTHTTH

Hopefully you are catching on by now. Each have the exact same probability of occurrence. And yet, most people would think the second more likely due to the randomness it seems to exhibit.

These two examples are very good at showing us how our brain handles patterns. The problem we have to overcome is that this happens automatically, in the reflexive part of our brains.

So, to prevent it, we must not allow our brains to find these patterns that lead to stupid investing decisions.

One of the best ways to do this is to stop looking at the daily or even weekly movements of the stock market.

For nearly everyone, those movements don’t matter at all. Having head knowledge of what happened in the market may make you sound cool at a cocktail party.

But the person at that party who has no idea what the market is doing is probably outperforming everyone who does.

Please note: I reserve the right to delete comments that are offensive or off-topic.

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