Behavior Gap Round Up, 4.17.2009

tshirtWe’ve received our first Behavior Gap t-shirts! They highlight my newest sketch about our tendency to buy stocks high and sell them low, a behavior that we avoid in every other area of our lives. It’s like buying a shirt for full price and returning it during a sale for its lower price. Does that make sense? Yet we do it all the time with the stock market.

I’ll be handing them out at several upcoming events. If there’s enough interest, I’ll make this version and others available for purchase in the future. Drop me a note if you’re interested.

$100 Billion Down the Drain (Every Year!)

Most industries “add value.” The financial services industry subtracts it. In other words, most industries provide goods/services that are worth paying for. This industry provides goods/services whose value is negative in precisely the amount that we pay for them.

Two noteworthy (but small) exceptions:

Of course, the financial services industry does in fact provide two services that are of value.

First, there are a handful of good advisers who actually help people focus on things that matter rather than promoting themselves as wonder-workers with some magical way of beating the market consistently. Second, the financial services industry connects users of capital (businesses) with providers of capital (investors).

However, it’s clear that the total amount spent paying for these two services is outmatched by the amount spent on our collective effort to outperform ourselves.

Conflicting Definitions of Risk

  • Finance world’s definition of risk: The likelihood of less-than-expected returns. (Or, “unpredictability/variance of returns.”)
  • Rest of the world’s definition of risk: The likelihood of negative returns. (Or, “the chance of losing money.”)

In my opinion, this is a problem. The finance community uses the word “risk” to mean one thing, while the rest of the world uses it to mean something different (but sufficiently similar to cause confusion)…To make matters worse, many people in the finance community switch back and forth between definitions–usually without giving any explicit indication of which definition they’re using…For investors: When you hear somebody say that something is either risky or safe, just be aware that they could mean either of two significantly different things. If you really want to understand what the person is saying, take the time to figure out which definition they’re using.

Why We’re Not at the Beginning of the End, and Probably Not Even At the End of the Beginning

But we’re not at the beginning of the end. I’m not even sure we’re at the end of the beginning. All of these pieces of upbeat news are connected by one fact: the flood of money the Fed has been releasing into the economy. Of course mortage (sic) rates are declining, mortgage orginations (sic) are surging, and people and companies are borrowing more. So much money is sloshing around the economy that its price is bound to drop. And cheap money is bound to induce some borrowing. The real question is whether this means an economic turnaround. The answer is it doesn’t…I admire cockeyed optimism, and I understand why Wall Street and its spokespeople want to see a return of the bull market. Hell, everyone with a stock portfolio wants to see it grow again. But wishing for something is different from getting it. And cockeyed optimism can wreak enormous damage on an economy. Haven’t we already learned this?

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