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The Two Facts You Need to Know About Any Market

by Douglas Dowell on January 24, 2014 · 2 comments

  

“The map is not the territory”
Alfred Korzybski

What time is it?

Market cycle timing has vexed investors of all classes since the dawn of trading.

Many fortunes have been won and lost by guessing rightly or wrongly with the question “what time is it?” The two facts of any market can help you “time” any market correctly. 1st Data doesn’t matter. 2nd Data is the only thing that matters.

Paradox?

Not if you work them in order.

A classic problem persist due largely to the fact despite our ponderous deep thoughts we are still a pack animal. If the herd…errr… our neighbor states that he is “crushing it” with penny stocks then we, by nature, evaluate. “Hmmmm perhaps I should be doing same.

We hate feeling we are the last one to the party. The human tendency is to shut down critical thought. Perhaps we respond emotionally to our social status way more than evaluating facts. The fact may be our neighbor is a respected doctor yet he is only crushing it in penny stock because the latest Wolf of Wall Street has his teeth in his neck.

Perhaps he just doesn’t know it. Bernie Madoff victims can relate maybe?

The fact remains the human brain cannot consciously accept more than 7 bits of data plus or minus 2 at any given moment. So, we derive short cuts to cope with the flood of information. How accurate are our short cuts?   Most important are the other market players short-cuts accurate?

1. Data Doesn’t Matter

This aspect forces us to judge the rationality of the players in the game. What are the dominant attitudes driving the market?  Errors in thinking are known more formally as cognitive bias. Evaluating the following puts you way ahead of other investors in any type of market.  Cognitive bias is a rule of thumb or shortcut to deal with the stream of data we face. The problem is this short cut may be wildly inaccurate.

While there are well over fifty, the most common in the investment context include:

  • Confirmation Bias: Screening out opinion or data unless it agrees with your conclusion.
  • Gamblers Fallacy: Ignoring the mathematics of conditional probability. Just because a market is up several days in a row does not mean it will be up the following day necessary.
  • Bandwagon effect: when too many people are saying the same thing or taking the same position its time to excerpting extreme caution and or if your very certain the crowd is wrong: GO SHORT BIG.
  • Irrational pessimism/Exuberance. All good things and bad things end in time.

2. Data is the Only Thing that Matters

Are you the trader or real estate investor making a cognitive bias error? The central antidote is heavy reliance on data. By using market research, statistics, opinion surveys, and historical analysis: you can beat the market. Beating the market means avoiding catastrophic loss.

CAUTION: You can manipulate the data to agree with you… don’t do that. Sitatutions will call you to make an intuitive choice. That decision based on know facts first is far likely to be correct over some notion of divine wisdom, horoscope, tarot or other such…well bovine excrement.

“Look Around the Poker Table; If You Can’t See the Sucker, You’re It”
Warren Buffett

Photo Credit: raindog Photo Credit: splorp

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{ 2 comments… read them below or add one }

Jaz Cook January 29, 2014 at 11:01 am

Hmmm. I read this twice and I’m still not sure I understand the point you’re trying to make.

Reply

Douglas Dowell January 29, 2014 at 11:08 am

Thanks for reading Jaz,

My central argument is to trulely make great investment you have to judge the bias of the other investors in the market in addition to strictly math based judgements.
Essentially, I did in inarful job of saying:

Be gready when every one else is scared and scared when everyone else is greedy

Warren Buffett.

I am also attempting to get at investor discipline…sortof the look at ourselves in the mirror.

I have been reading folks like Robert Shiller…behavorial finance is a VERY interesting angle on everything.

Reply

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