This discussion leaves many questions to be answered by investors, like -
Do
you want money managers gambling with your pension money? Emotional
stability is one hallmark of a good investor according to Warren Buffett
and John Coates is suggesting that the financial markets are dominated
by bipolar emotions exaggerating moves in both up and down movements.
Markets may eventually revert to the mean but do you have the
constitution to stay the course amidst the volatility?
CBC Books - The high stakes of Wall Street
John Coates explains his ideas:
"The Hour Between Dog and Wolf: John Coates Research in Neuroscience" suggests that the
physical
reactions on trading floors are similar to war zones or elite sports
where the pressure to perform and survive is great.
In such situations, the Visceral trumps the Rational.
The man behind that view spent years on the trading floor for the big players on Wall St. before studying neuroscience.
The trading floor looks like an adrenaline-fuelled battle zone and the truth isn't far off.
Research
in neuroscience suggests that being a part of this whirlwind world of
buying and selling leads to physiological reactions akin to fighting in a
war zone or playing in the NBA playoffs. The pressure to perform is
huge and the instinct to survive is powerful.
One man who knows much about this is John Coates, author of The Hour Between Dog and Wolf.
Coates
was a Wall Street stock trader for years, at firms like Goldman Sachs
and Deutsche Bank during the dot.com boom of the 1990s.
Seeing the behaviour of other traders, he observed hey seemed to operate contrary to how economics is supposed to work.
"Well,
I think everybody was seeing it, but I guess I was particularly struck
by how anomalous the behaviour was from the point of view of economics,"
Coates said.
"Traders
on the floor had become delusional and euphoric ... They were putting
on trades in ever-increasing size with worse and worse risk-reward
trade-offs. And I thought this was odd because they hadn't been this way
before the bubble, and after it crashed or popped, they weren't like
that any more, in fact they were like revelers with a hangover. And
they couldn't believe that they had just blown five years' worth of
profits on a handful of stupid trades."
There
are some chemicals that your body producing that was basically having
this narcotic effect on you. And that got Coates to think about
the influence of the body on financial risk-taking.
We'd
like to think that financial trading is based on solid reasoning and
rationality, but human beings are not robots, even if some purport to
operate that way.
Emotions get in the way. Fear can sink in. So can the natural instinct to fight.
Through studying neuroscience, Coates explored his theory about what he was seeing on the trading floor: that physiological
changes happening within traders as they gain and lose vast amounts of
money may be driving the instability of the financial markets.
"The
trouble is right now we've got an unstable biology coupled with
risk-management practices that expand risk limits during the bull
markets and contract them during the bear, and a bonus scheme that
rewards high-variance trading."
Coates
concludes the biology increases volatility by exaggerating movements on
markets whether up or down because the reward system of bonuses
encourages high risk trading; flight or fight drives behavior when
markets start crumbling and adrenaline , testosterone, and pleasure
seeking kicks in when market start running to the upside....
more bonuses and more high risk taking behavior. Egos expand brashness
and the "greater fool" theory takes precedence over value investing.
Coates suggests: "I think also if there is the
biological contributor to this instability, then a way of dampening it
is to have more women and older men managing money because they have
very different biologies from young men."
First aired on The Current (28/05/12)
Link:
http://www.cbc.ca/books/2012/06/the-high-stakes-of-wall-street.html
EE, sleekit, cowrin, tim'rous beastie,
