This article resonated with me following the market wobble at the start of August. In summary, the author describes that—while market psychology moves in repeatable patterns—new technologies and increasingly interconnected global markets have made it easier to react to new information quickly. But this is not necessarily a good thing.
“The hard part for investors is that it’s now easier to lose control during these types of market events. You don’t have to call your broker on the phone to place a trade. You can change your entire portfolio on your phone with the push of a button.”
Technologies that reduce friction in our lives often amplify our biases. They remove barriers that would usually prompt healthy deliberation, allowing us to act on our impulses more easily.
We can see this darker side of technology playing out across the digital realm. Networks connect us with like-minded individuals, creating echo chambers where biases are reinforced rather than challenged. Algorithms designed to optimise engagement perpetuate existing biases, making them louder. The temptation to follow the herd is stronger than ever before—and doing so is easier.
Overreactions can happen much faster now. I lifted this graph from the linked article. It shows the biggest 1-day gap downs over the past 40+ years:
This is not to downplay the immense benefits these technologies have brought. But with more information at our fingertips than ever before, wielding that information well—and without bias—becomes more important (see "Why We Fail" for more thoughts on this). I suspect this requires slowing down decision-making, not speeding it up.
As a team that has spent most of our careers studying market psychology, we will be the first to admit that detecting the turning points in swinging investor sentiment is hard. But we think it’s increasingly important to pick up on these signals as they become more impactful. Remaining disciplined when everyone else is losing their head can be a profitable strategy, and an investment process designed to recognise these moments of madness is arguably more relevant than ever.
Our discipline is watching earnings forecasts. Are they crumbling or not, and if so, where and why? Is management behaviour becoming “risk-on”, eroding free cash flow margins? Do share prices look extreme relative to free cash flow? Are negative stories building in evidence, or are they just speculative? Are stories explaining share price moves dependent on the market direction—a sign of post-hoc rationalisation?
Share prices have pinged back from the steep drop at the start of the month, so the media is now reporting good news rather than impeding doom. In reality, not much has changed. Soon, the narrative will move on to the next worry.
Our desire to infer things from short-term moves is strong, so we cast around for good reference points when often there are none. We prefer to remain focused on our slower-moving indicators and introduce healthy friction into our investment process through thinking tools and collective decision-making processes. It sounds boring, but we save our thrills for the pastry shop.
- Emilia