NeuroInvesting by Wai-Yee Chen

Author:Wai-Yee Chen [Chen, Wai-Yee]
Language: eng
Format: epub
ISBN: 9781118339244
Publisher: Wiley
Published: 2013-07-05T04:00:00+00:00

Buying at the Top

I was having a drink with a guest after an investment seminar. Tim (not his real name) works as a TV producer for one of the business channels. His job involves daily interactions with top analysts and experts from the investment industries who are guests for the shows and interviews. Tim is pleasant, sociable, upbeat, and intelligent.

I asked Tim if the daily input and exposure to some of the most eminent finance experts with up-to-the-minute information flow helped him in his own investments. He said, “Yes, but . . . unfortunately I always end up buying at the top!” I thought, “Aha, you are a proof of my hypothesis!”

As I told Tim, my hypothesis is that many investors who have access to quality real-time information and are knowledgeable in the investment arena, when it comes to execution end up buying when prices are too high or have run up substantially. The instigator of this counterproductive action is the emotional brain.

Most traders evaluate investment opportunities by engaging their rational brain, the prefrontal cortex, logical thinking brain. A trade may qualify as a potentially profitable trade on paper, but many still sit back, contemplate, hesitate, and may not actually execute or get into a trade. This may occur because there are two decision makers in the brain. The first is the prefrontal cortex, which evaluates the numbers, reads the reports, and listens to expert opinions. However, the emotional brain is the decider, the one that either pushes toward or pulls one back from pressing the button.

I shared with Tim that what I believed had held him back was his high sense of self-preservation, which is modulated by the amygdala in the emotional brain. Due to a strong sense of fear of losing, the threshold to get into a trade is emotionally higher than the same decision that may appear on paper. While this emotion first holds him back from jumping in, there is yet another gripping emotion that takes over when the stock price keeps rising. This is the fear of losing out.

The emotional brain is averse to uncertainties, even to the uncertainty of gains. The more the stock rises, the more agitated the amygdala and ACC becomes. It feels like a kick in the butt, “Why didn't you get in when you first ‘decided' (cognitively) to do so?” The more the stock rallies, the more Tim feels he is losing out because everyone else out there is making money, riding on this rising stock, while he is not. He feels “poorer” compared to his peers. The more Tim is left on the sidelines, the more he feels uneasy, tensed; the more the amygdala/ACC network is active, while he watches the stock rise. Tim feels frustrated; with himself (not jumping in earlier), the stock (for rising so rapidly), others (benefiting from the rally), and finally, to ease the tension, he succumbs and buys the stock. However, often by this time the stock has had a decent rally and decides

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