Value Library
The following is an
excerpt from the ABC Perspective - April 2001 - Pg. 12
Herd Instinct
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Happiness is running
with the crowd and Wall Street is certainly famous for
its herd instinct. It is nice and cozy in the center
of the herd where the body heat is the greatest.
However, there is danger in being too comfortable, as
one is not at a good vantage point to observe the
subtle early indicators of changing conditions. To be
a successful investor over time you need to become
nervous when others start feeling secure. This is the
" wisdom of insecurity".
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| -The Tao Jones
Averages
Bennett W. Goodspeed |
One of the most
interesting traits of the investing public is the tendency
" to ride with the herd". Perhaps it is a
psychological investment insecurity that encourages and
reinforces individuals’ desire to buy whatever everyone else
is buying. Regardless of the reason, the end result, in my
view, is that many investors tend to own the same core stocks.
While there may be
nothing inherently wrong, with the "herd instinct"
the fact is that it discourages investor free-thinking and
potential profitable contrarian investing. From my investment
experience the most successful investors have not been the
ones who were clinging to a consensus stock portfolio, but
rather, they were the ones who dared to analyze and purchase
(or sell) out-of-favor, undervalued securities. These shares
were often purchased early before the masses lit up to a
story. As a result these investors through their astute
non-conformist investing style often tended to do exceedingly
well. The most well known of this sort who comes to my mind is
Warren Buffett.
Contrarian investing as
a counter measure to the "herd instinct" is neither
an easy discipline to follow nor instantly gratifying. It
literally involves the Patience of Job. But few investors are
emotionally capable of bucking the trend, gritting one’s
teeth and standing the heat. Moreover one must have " the
courage of one’s convictions’" and this is often not
easy in the face of media hype, popular delusions or client
criticism. An excellent real world example of this point was
the recent Nortel growth investing wave of 1999/early 2000 and
its subsequent demise.
In conclusion the
overall point I wish to emphasize is that herd instinct is a
temporary market fix and that having a long term,
non-conformist, inquisitive investment approach will often
lead to superior investment returns.
Irwin A. Michael, CFA
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