Herd Mentality | Know Your Behavioural Biases: Part 8

As Monty Python’s eponymous hero of ‘The Life of Brian’ once famously declared ‘You are all individuals’.

We’d certainly like to think we are – from our choice of clothes, our holiday destinations or the cars we drive, right through to whether we’re a flat white person or more of the macchiato type. The thing is, while we try very hard to go our own way, we’re still pulled in various directions by the instincts and biases that have allowed us to both stay alive and function in society.

To cope with the many demands of simply living our lives, our brains have evolved ways to screen out the things we don’t need to know about and focus us on the things that matter, whether it’s a threat, a meal, a conflict or an opportunity. But our distant ancestors didn’t spend their time investing and when our ancient instincts are transposed into modern situations they can have some unhelpful side effects.

You can’t hope to beat bias, we’ve had too many millennia of evolution for that. But if you can get wise to the ways your brain might not be allowing you to see the whole truth, you can start to make more informed investment decisions.

I herd the news today, oh boy (sorry) – herd mentality is all about following the crowd into the next big thing. As humans we tend to instinctively recoil or rush headlong into excitement when we see others doing the same. It’s an accepted and demonstrable quirk of human behaviour – try stopping and looking up at the top of a building for a few seconds, then see just how quickly other people spot you and start doing the same.

As Belsky and Gilovich note in ‘Why Smart People Make Big Money Mistakes’:

“The idea that people conform to the behaviour of others is among the most accepted principles of psychology.”

When is it helpful?

Even if it rubs your individuality up the wrong way, this kind of herd mentality can be helpful. It’s what alerts us to new things that could benefit us. It’s why we go to a hot new restaurant, follow a fashion trend, binge on a hit series, or get into a new band.

The exclusivity and snobbery that make us try to buck the trend is a much more recent phenomenon and as Belsky and Gilovich note, “Mostly such conformity is a good thing, and it’s one of the reasons that societies are able to function”. Herd mentality helps us create order out of chaos – in traffic, legal and governmental systems alike.

When is it harmful?

The problem is that when it translates to investment, herd mentality becomes something different. We’ve all heard the famous Warren Buffett quote about being fearful when others are being greedy and vice versa.

When a piece of the market is on a hot run or in a cold plunge, herd mentality intensifies our greedy or fearful chain reaction to the random event that generated the excitement to begin with. When the dust settles, the people who reacted to the near-term noise are usually the ones who end up overpaying for the ‘privilege’ of either chasing or fleeing temporary trends, instead of staying the course toward their long-term goals.

With investing, it’s important to be able to spot herd mentality at work so you can take the decision to stand your ground. Stopping and thinking are much harder to do than following the crowd – rather than being instinctive, they take a higher, more conscious level of thought processing. They’re examples of fluid intelligence, the ability to consider new evidence and change your standpoint, even in the face of what everyone else is doing.

Read Part 9: Hindsight →

Keep bias at bay

It’s surprising how hard it can be to simply let things be. Knowing why we react in the ways we do is the first step to avoiding the counterintuitive actions that can damage what we set out to achieve with our investments.

You can download Making Better Decisions: Know Your Behavioural Biases in full today.

Carl Widger
Co-Founder & Director
Email: cwidger@metisireland.ie