We, humans, are emotionally driven. While our emotions play a part in defining who we are, they sometimes tend to override our capabilities to make rational decisions. It is humanly impossible to rid oneself of his/her feelings, so the best workaround would be to become conscious of the role our emotions play in our decision-making process and find ways to keep them in check.
During times of uncertainties (like the pandemic we are facing today), people are wired to follow a crowd. This rationality is better known as herd instinct where an individual feels a certain sense of safety in being connected to others. This need to conform to a group of people arises from the fear of being an outcast. In financial markets, this same herd mentality has proven to be contradictory.
“Be fearful when others are greedy, and be greedy when others are fearful!”
– Warren Buffett
In these wise words, there is a strong message for investors, especially to those that are inclined towards following the herd. The financial markets have seen many downfalls due to people following their ‘blind’ instincts. Recently we witnessed the jump in stocks for ‘Zoom Technologies Inc.’ This was triggered by eager traders flocking to purchase shares in the video calling platform ‘Zoom’ which was expected to be most coveted in the time of lockdown for its multi-people remote conferencing capabilities. The share price of the company quickly jumped to 240%. Unfortunately, numerous investors who invested in ‘Zoom Technologies Inc.’ were in for a big shock when the SEC suspended it for lack of “any public disclosure since 2015”. Zoom Technologies Inc. was, in fact, a tiny holding company situated in Beijing, while ‘Zoom Video Communications’ was the true owner of the app. True enough the app has performed favorably with over 100 million downloads to date and its stock has surged 50% even at a time when S&P 500 fell more than 20%.
This was a classic example of the phenomenon where we witness large market rallies and sell-offs that are fundamentally unjustified. Investors tend to perceive moves made by other investors and then mimic it. This usually happens when a larger herd of investors are seen moving in one direction. The Fear Of Missing Out (FOMO) kicks in causing knee-jerk reactions to certainly move in the same direction. Everybody cannot be wrong, right? Wrong. In such scenarios, there is a lack of basic analysis on an individual’s part to understand the consequences his socially influenced move may have on his portfolio, his long-term investments, and linked goals.
Our quick-thinking usually is a natural tendency where we choose the ‘social default’ and subconsciously make a choice in the absence of basic analysis. Historically, there have been economic bubbles, the Dotcom bubble of 2000 or the Real-estate bubble of 2008, that burst when markets rallied to unsustainable levels causing a sudden contraction leaving left investors bewildered. Recently Franklin Templeton’s called the shots to shut down 6 of its high-risk debt funds. A surge in redemptions, the inability of the AMC’s fund manager to sell its underrated holdings in the bond market combined with the lack of liquidity to meet surging redemptions is what caused the mayhem, and ultimately its closure. The news of closure hit markets and quickly set panic among investors, even those who held low risk high rated debt instruments began to doubt their holdings.
At this stage, an investor’s fear can possibly turn into a reaction and slowly snowball into a herd movement causing another bubble in the making. A little bit of analysis and understanding of the debt market will clarify the reason that the AMC wanted to curb the future losses of its investors. Their investment in high risk, high return instruments here could be detrimental in case the lockdown continues to extend and further affect the economy.
When money is at stake, greed and fear are the two most obvious emotions that one can expect to experience. Deciphering what triggers these emotions, how you can override them, and what are your risk capacities, all these can help you avoid any undesirable reactions in such uncertain times.
“If everyone is thinking alike, then somebody isn’t thinking.”
― George S. Patton