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June 26, 2020 at 02:08 PM
At this time of acute uncertainty and high anxiety, how do investors behave? Some worry and trade; some worry and do nothing. Either behavior is entirely normal, behavioral finance pioneer Meir Statman argues in an interview with ThinkAdvisor.
This is not to say that the Santa Clara University finance professor condones excessive trading. In fact, if he could “put handcuffs” on David Portnoy, the so-called “poster child of the day-trading craze,” he would, so to speak.
Nonetheless, Statman contends it’s not individuals that are driving the market but professional institutional investors — those folks along with, seemingly, the coronavirus itself.
The behavioral finance authority, consultant to a number of investment companies, came to prominence with his 2010 book, “What Investors Really Want.” His two most recent tomes are “Finance for Normal People: How Investors and Markets Behave” and “Behavioral Finance: The Second Generation.”
From his observations over the past months, Statman sees two predominant behavioral finance biases tripping up investors during the pandemic: “framing” and “representativeness.” In the interview, he discusses both.
The professor also talks about science’s method in trying to wrestle down the virus, a new one causing a new disease never before diagnosed.
Statman, who has just completed conducting an online investment course, including a section on options and futures, is the recipient of numerous prestigious awards, including three Graham and Dodd Awards and a Moskowitz Prize for best paper on socially responsible investing.
ThinkAdvisor interviewed Statman on June 19. He was speaking by phone from his home in Silicon Valley. As for actionable advice for financial advisors, he stressed that FAs need to bring up and hash out contingencies with clients, not assure them that everything will be all right.
Here are highlights of our conversation:
THINKADVISOR: Some people liken the current market to a casino because, they say, the Federal Reserve is encouraging risk-taking with low interest rates and stimulus. Do you see the heavy trading as normal behavior or irrational behavior?
MEIR STATMAN: It’s perfectly normal. This is a time of greater uncertainty. People are trying to figure things out. They don’t know when fear is going to abate or go deeper. So it’s normal for some to worry and trade, and it’s normal for others to worry and sit still and do nothing.
What do you think of David Portnoy, founder of Barstool Sports, who touts day-trading and brags of his success? He’s been called “the poster child of the day-trading craze.” Is he a bad influence?
He’s an absolutely bad influence. If I could just put handcuffs on him. I think he has some $3 million invested, which is peanuts relative to what a Fidelity or a Goldman Sachs invests. Lots of small investors get themselves into deep trouble because they don’t know what they’re doing, but they think they know more than they actually do.
Is that normal, too?
We all [sometimes] find ourselves in a situation where we have to realize that our confidence and our wisdom aren’t in perfect alignment. My high school math teacher used to call it “the confidence of the ignorant.”
What’s an example?
Look at that 20-year-old college student who was trading options on [online BD] Robinhood. He thought his account showed that he had a cash balance of about minus-$750,000, and he killed himself. [It’s unclear why that figure was generated. He reportedly had $16,000 in his account.]
What are your thoughts about day-traders, in general — mostly young people who, many hold, are driving the market?
I don’t think the small investor is the tail that’s wagging the dog. Overall, their volume is small relative to the volume of professionals — institutional investors and so on. If you look at 401(k) accounts, most individuals have done nothing.
