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Logical Vs Emotional Investment Strategies: Madison Avenue and Wall Street

December 13, 2010 By Rob Bennett Investing--The New Rules

A lot of investment advice is rooted in the premise that humans are rational beings. Rob Bennett says it aint soand offers up Madison Avenues success in appealing to emotions, rather than logic, as an example. Its all in this edition of InvestingThe New Rules.

Investing The New Rules What Madison Avenue Knows That Your Favorite Investment Expert Does Not #33December 13, 2010
Id like you to take a quick look at the advertisements that appear at this page and tell me (just whisper the answer I have a new techno gadget installed only on the page that contains this column that permits me to hear the response) the two distinguishing characteristics of each and every one of those advertisements (and of just about every other one you see on all the other web sites and in the newspapers and on the television shows). Knowing the answer will improve your investment return. Not a little. A lot. The two characteristics of every effective advertisement are: (1) it appeals to the emotions rather than to reason; and (2) it persuades through repetition rather than through logic.

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I argue in this column for a new approach to investing called Valuation-Informed Indexing that is the opposite of todays most popular approach, Buy-and-Hold. The reason why Valuation-Informed Indexing is so much superior is because it is rooted in logic rather than in emotion. The reason why Buy-and-Hold is so much more popular is that it is rooted in emotion rather than logic. I thought that pointing out how advertising works might help answer for you the most puzzling question that occurs to people being exposed to Valuation-Informed Indexing for the rst time If this is such a great approach, why doesnt everybody follow it? The premise of Buy-and-Hold is that investors are rational beings. Thats why you hear often that you cant beat the market. The claim that you cant beat the market is rooted in a belief that the market knows what it is doing. If investors are rational, they are going to set stock prices where they should be. If prices are set where they should be, there is no way for any one investor to beat the market by educating himself as to how the market price is improper. Improper pricing is an impossibility in a world of rational investors. The error is the foundation stone. We aint rational beings. We like to atter ourselves into thinking we are, that much is fair to say. But we aint rational. If we were, advertising would look a lot different from what you see when you look about you today. The people who make television commercials would go broke if they followed the premise that guides the investing experts. Television commercials focus on the emotions because thats what works!

Ignore emotion in any endeavor that depends on an understanding of human behavior and you are going to make a mess of things. Thats what the investing experts did when they developed the Buy-and-Hold Model. Buy-and-Hold ignores valuations, which is the same thing as ignoring emotions; the valuation level that applies for stocks at a given time reveals the extent to which investor emotion has caused stocks to be mispriced. Theres only one area in which the investing experts take emotion into account. They do this in their marketing campaigns! Consideration of emotion is forbidden is their discussions of investment strategies. It is totally cool when it comes time to sell you junk. I wonder why. I mentioned how we all like to be attered that we are rational. The need to be attered is an emotional need. The people who promote Buy-and-Hold atter us all the time. Think about that saying You Cant Beat the Market. Who is the market? The market is us. What they are saying is that we are so gosh darn smart and wonderful that there is no way to ever beat us. We are the best! We rock! Its shameless attery. ALSO at DBKP: * The Angry Investor: The Cognitive Dissonance of Buy-and-Hold * Investing: Buying Products Without Price Information? * Investing: What if Everything You Know about Investing Turned Out to be Wrong? * Seinfeld Economics: An Economic Crisis About Nothing * Conservative Keynesianism: InvestingThe New Rules * Predicting Presidential Success Using the P/E10 Stock Valuation Metric: InvestingThe New Rules * InvestingThe New Rules: Politically and Economically Incorrect * InvestingThe New Rules: Buy-and-Hold Media Myths Begin Crumbling * InvestingThe New Rules: Watching Creative Destruction Play out in Real Time * Investing-The New Rules: The Free Market is at Risk * Investing-The New Rules: Stock Game Played with Loaded Dice * Investing-The New Rules: Some Losses Are Real, Some Are Imaginary * Investing-The New Rules: Whos Driving Who, The Economy or the Stock Market? * Investing-The New Rules: Life Itself is a Free Lunch * InvestingThe New Rules: 9 Reasons Doom and Gloom Are Not Cool Its wrong too, of course. Those who take valuations into account when setting their stock allocations have been beating the market going back to 1870, which is as far back as we have records. But no matter. The claim that you cant beat us

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Logical Vs Emotional Investment Strategies: Madiso...

because we are so gosh-darn thrillingly smart atters us. Thats what works from a marketing perspective. So thats what the experts tell us over and over and over again. They employ the power of repetition on us too, just as any skilled marketer would. They dont tell us one time that timing doesnt work, they tell us this 10,000 times. Have you ever stopped to think what it means to say that timing doesnt work? An alternate way of saying it would be to say that paying attention to the price of the thing you are buying doesnt work; there is no way to take price into consideration when buying stocks other than to change your allocation in response to big price changes, that is, to time the market. For The Stock-Selling Industry to tell us that timing doesnt work sounds a whole big bunch less self-serving, doesnt it? And if you say it thousands and thousands of times, you can get generally intelligent people to believe it! Repetition trumps logic with the humans. The way it is. We live in a marketing age. Most of us like to think that we are on to the tricks that advertisers use to sell us stuff. We are cynical. We are above the reach of their games. Theres a line from the Elvis Costello song New Lace Sleeves that comes to mind for me when I hear people who have bought into Buy-and-Hold brag about how they cannot be taken in by obvious advertising tricks:

You say that teacher never taught you anything but white lies, But youve never even seen the lies that you believed.

by Rob Bennett images: ; dbkp le; asian male revolution Rob Bennett developed an investment return calculator that runs a regression analysis of the historical stock-return date to identify the most likely 10-year return for stocks. His bio is here. And dont even think about not reading these Important Cautionary Words. Back to DBKP Front Page.

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9 Responses to Logical Vs Emotional Investment Strategies: Madison Avenue and Wall Street
1. Tweets that mention Logical Vs Emotional Investment Strategies: Madison Avenue and Wall Street | DBKP - Death By 1000 Papercuts - DBKP -- Topsy.com on December 13, 2010 at 08:26 [...] This post was mentioned on Twitter by Al Castillo, Sharon Spence, Cindy Villanueva, Sharon Spence, Money Hacker and others. Money Hacker said: Logical Vs Emotional Investment Strategies: Madison Avenue and Wall Street http://bit.ly/exEyoe http://www.moneyhackers.org [...] Reply 2. ITNR #33 What Madison Avenue Knows That Your Favorite Investment Advisor Does Not | A Rich Life on December 17, 2010 at 10:40 [...] ITNR #33 What Madison Avenue Knows That Your Favorite Investment Advisor Does Not Published in December 17th, 2010 Posted by Rob in Investing: The New Rules, Investor Psychology Ive posted Entry #33 to my weekly Investing: The New Rules column at the Death by 1,000 Papercuts column. Its called What Madison Avenue Knows That Your Favorite Investment Expert Does Not. [...] Reply 3. Comment on Logical Vs Emotional Investment Strategies: Madison Avenue and Wall Street by ITNR #33 What Madison Avenue Knows That Your Favorite Investment Advisor Does Not | A Rich Life | Johnsblog - I Know I'm Right... on December 17, 2010 at 10:58 [...] Comments for DBKP Death By 1000 Papercuts DBKP CFlipper Found in section: Politicin' [...] Post Published: 17 December 2010 Author:

Reply 4. Comment on Logical Vs Emotional Investment Strategies:. | Johnsblog - I Know I'm Right... on December 17, 2010 at 14:24 [...] Comments for DBKP Death By 1000 Papercuts DBKP Post Published: 17 December 2010 Author: CFlipper Found in section: American Goof-Balls, American Socialists, Bad Science, Politicin' [...] Reply 5. Republicans Have Played Defense on Economics Since the Great Depression | DBKP - Death By 1000 Papercuts - DBKP on December 20, 2010 at 07:01 [...] began that offers an important clue. It was written up in all the papers. ALSO at DBKP: * Logical Vs Emotional Investment Strategies: Madison Avenue and Wall Street * The Angry Investor: The Cognitive Dissonance of Buy-and-Hold * Investing: Buying Products Without [...] Reply 6. Investing: Author Banned from 15 Websites | DBKP - Death By 1000 Papercuts - DBKP on January 31, 2011 at 07:01 [...] Irrational Exuberance * Republicans Have Played Defense on Economics Since the Great Depression * Logical Vs Emotional Investment Strategies: Madison Avenue and Wall Street * The Angry Investor: The Cognitive Dissonance of

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Buy-and-Hold * Investing: Buying Products Without [...]

Logical Vs Emotional Investment Strategies: Madiso...

Reply 7. Forbidden Research into Buy-and-Hold Mentality | DBKP - Death By 1000 Papercuts - DBKP on February 7, 2011 at 17:35 [...] Irrational Exuberance * Republicans Have Played Defense on Economics Since the Great Depression * Logical Vs Emotional Investment Strategies: Madison Avenue and Wall Street * The Angry Investor: The Cognitive Dissonance of Buy-and-Hold * Investing: Buying Products Without [...] Reply 8. Buy-and-Hold is Old-and-Busted: The Discussion the Investing Discussion Boards Wont Have | DBKP - Death By 1000 Papercuts - DBKP on March 7, 2011 at 07:02 [...] Irrational Exuberance * Republicans Have Played Defense on Economics Since the Great Depression * Logical Vs Emotional Investment Strategies: Madison Avenue and Wall Street * The Angry Investor: The Cognitive Dissonance of Buy-and-Hold * Investing: Buying Products Without [...] Reply 9. The Future of Investing: Four Exciting Changes | DBKP - Death By 1000 Papercuts - DBKP on March 14, 2011 at 07:02 [...] Irrational Exuberance * Republicans Have Played Defense on Economics Since the Great Depression * Logical Vs Emotional Investment Strategies: Madison Avenue and Wall Street * The Angry Investor: The Cognitive Dissonance of Buy-and-Hold * Investing: Buying Products Without [...] Reply

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