Lawrence E. Lifson & Richard A. Geist, The Psychology of Investing . John Wiley & Sons, 1999. 198 pages, $29.95.
In 1787, the Scottish poet Robert Burns anticipated the 20th century's fascination for psychology when he wrote:
Oh, would some Pow'r the giftie give us
To see ourselves as other see us!
It would from many a blunder free us...
Only recently has the "Pow'r" of psychology been applied to the enormous, but little-explored psychological strains under which investors work. Take the following statistic: Between 1970 and 1990, 75% of professional money managers underperformed the
The Psychology of Investing
is a collection of 11 essays that are part of an ongoing effort by two Harvard psychologists, Lawrence Lifson and Richard Geist, to find out why.
They certainly bring heavyweight credentials to the task: Lifson is a lecturer in psychiatry at Harvard Medical School, an associate clinical professor of psychiatry at Tufts University and a faculty member at the Boston Psychoanalytic Institute. His partner Geist is an instructor at Harvard Medical School; a founding member of the faculty at the Massachusetts Institute for Psychoanalysis, and the president of the Institute of Psychology and Investing.
They have done this by sponsoring, since 1995, an annual conference called, appropriately enough, The Psychology of Investing. The conference speakers reflect a rich array of disciplines -- from psychologists and psychiatrists to academics and investment practitioners -- and this book represents a compilation of the best of their presentations over the years. The reader is treated to a wide-ranging discussion on topics as diverse as contrarian investment theory, momentum strategies and investor overreactions.
If you assume market psychology is best described as a simple conflict between greed and fear, read Richard Geist's essay on "The Emotions of Risk." You will very quickly learn that in addition to greed and fear, there are the emotions of grandiosity (I'm on a roll and can do no wrong); shame and humiliation, loss, and the inherent human need to be part of a herd. He also explores why it is that most people can measure performance, but few can define risk. You will also read that successful investors invariably "enjoy the process of making money more than they do the money itself."
If you've always wondered about momentum investing, read the presentation by Louis Chan, Narasimham Jegadeesh and Josef Lakonishok. Lakonishok is one of the foremost researchers on momentum investing, and he explains how the complexity of share price movements can often be reduced to two simple factors: previous six-month price performance and the magnitude of the latest earnings surprise. He then tells you how to benefit from this fact.
If you are enticed by all the money being made in initial public offerings, read money manager David Dreman's essay, "Investor Overreaction." There you will learn that the annualized return on all IPOs over the 20 years ended in 1990 was a mere 3% -- lagging far behind the market's return of 12%.
Dreman also points out that while the overall value of Internet stocks was some $15 billion or $20 billion (much more by now, of course), "what many of them will do is sell advertising, and now they have roughly 20 times the market value of all the public advertising companies in all the world. So we're really in an astounding type of mania, possibly the greatest since the tulip craze."
Equally provocative viewpoints can be had from David L. Cassidy, an analyst with fund tracking service
, who wrote "Why It Is So Difficult to Sell." Or, learn how to analyze a company as a living organization in "Diagnosis Before Investment," written by Harry Levinson, a professor emeritus of Harvard Medical School's Psychiatry Department. Hear one man's view on sadism on Wall Street in John Schott's "Psychopathology of Everyday Investing." Schott should know -- not only is he a professor at the Harvard Medical School's Psychology Department, he is also a portfolio manager with Steinberg Global Asset Management.
The essay by Steven Halpern, a syndicated columnist and editor and publisher of the newsletter "The Dick Davis Digest," closes the book on an appropriately cautious note. It describes briefly many of the bits of conventional wisdom and behavior that bull markets often foster. These include such truisms as how real estate is claimed to be an inflation hedge and how tall buildings are designed at the tail end of economic booms. He goes on to describe how public sentiment can signal the end of this bull market.
The Psychology of Investing
is indeed "some Pow'r giftie." Let us hope that it may also "from many a blunder free us."
Desmond MacRae is a New York-based freelance journalist specializing in banking, finance and investments. He is a regular contributor to Managed Account Reports, Global Investment and Plan Sponsor.
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