Some See 'Herd Behavior' Behind the Market Swings
In theory, the stock market works rationally and investors always exercise a disciplined calculus to part with their hard-won cash.
But in reality, as the previous two days have shown so dramatically, there is a lot of raw emotion and frail psychology in the "demand" half of the crowning equation of "supply and demand."
The coupling of Monday's 554-point drop and Tuesday's 337-point rise in the Dow Jones industrial average "is an extreme example of the fact that Wall Street decision-making is based on emotional, not rational, analysis," said Maurice Elvekrog, a psychologist and financial analyst in Bloomfield Hills, Mich.
He attributed the wild trading to "herd behavior" largely on the part of fund managers, who on Monday reacted en masse to a crisis in Far East markets by selling and then on Tuesday lapped up the now-discounted spoils. "Presumably the professional managers are doing their own thinking and analysis," he said. "But they all tend to live in the same world and are very concerned about quarterly results. They don't want to be left behind."
It is only one of the oddities of "investment psychology" that professional money managers, with their high-flying financial credentials and reams of computer data at their fingertips, should be ignominiously compared to a bunch of skittish zebras fleeing a hungry lion.
Beyond herding, social scientists have documented or postulated other ways in which decidedly noneconomic emotions sway decisions to buy or sell stocks--including a paralyzing fear of loss, self-aggrandizement, wishful thinking and a sort of optimistic group-think.
No less an authority than the chairman of the Federal Reserve, Alan Greenspan, acknowledged that there was more to market valuations than coldly assessed bottom lines when he said earlier this year that the stock market was subject to "irrational exuberance."
Neil Weinstein, a Rutgers University psychologist specializing in decision-making theory, said that psychologists are making inroads into the "dismal science" of economics. "There's continuing disagreement between one branch of economics, which treats people as rational decision-makers optimizing benefits to themselves, and the psychologists who point to biases and rationalizations" suggesting that investing behavior is not always optimal after all.
