beauty contest
You may have heard of the "beauty game" theory of the great economist Keynes, which says that in a beauty contest, many beauties will show up one by one. As a member of the audience, you need to vote for one person. If the person you choose gets the most votes and becomes the beauty queen, then you get the most money.
May I ask, would you choose the person you think is the most beautiful?
No, because your goal is to win this game, so you will vote for the person who you think is the most beautiful in the eyes of others. And others will not vote for the person they think is the most beautiful, but will vote for the person they think is the most beautiful in the eyes of others.
So, when you make a choice, you are actually guessing at someone else, which is the beauty pageant game.
With this in mind, let's play a game together.
guessing game
The game is very simple, assuming that there are many people participating together. Each person only needs to report a number between 0 and 100 at will, and the game is over.
How can we win?
You win when your guess is closest to 2/3 of the average of the other people's guesses.
What does that mean? For example, if other people first estimate an average number of 50, then 2/3 of the number 50 is about 33, and the person who guesses 33 wins. What if most people also guess 33? The guessed number is close to 2/3 of 33, that is, the person who guesses 22 wins.
Ok, now the game starts, may I ask, how many can you guess?
You can find a few more friends to play this game together and see what the final result is.
Anyway, a scholar, Dick Thaler, once conducted this experiment in the Financial Times and invited people from Wall Street to participate. The winner will receive 2 round-trip business tickets from New York to London.
As a result, the average number of guesses was 18.91. Therefore, the winner is the person who guesses 13 at the end.
Didn't expect it to be so low? In fact, it doesn't matter what number actually wins the prize. This question has a rational equilibrium solution: 0.
Why is it 0?
Because the key to this question is that your guess is lower than others, and the others you guess are also guessing others. So, what do you think other people think is very important.
Because others are also guessing others, everyone hopes to guess the number smaller than others, which is 2/3 of the number guessed by others. In this way, the final problem will converge to 0 and reach equilibrium.
So, if every participant is rational, there is only one equilibrium, which is 0. This is the answer of a rational person.
But in reality, guessing 0 is not a good strategy. Because you are thinking that with so many people present, maybe not all of them are so rational. As long as there is a person who is irrational and does not guess 0, then if you guess 0, you will definitely lose. So, how much you guess depends on how much you think other people will guess.
Did you find out, how much you answer in this game depends on how rational you think others are. People on Wall Street may be more rational than ordinary people, and they have played more games in their hearts, so the numbers answered are closer to rational equilibrium.
So, what can we learn from this game?
In fact, this game is an upgraded version of the beauty pageant game:
Financial investment is actually guessing at others. What you think other people think is more important than what you think.
The stock market is a beauty contest
Will you use your money to buy the stock that you think is the best?
No, because you want to make a profit, you should use your money to buy the stock that you think is the best stock that others think is the best.
So, what do you think other people like? This requires some psychology. The erroneous perceptions and wrong decisions of various people in the real environment that we discussed in the previous article are tools that can be used to speculate on others.
Therefore, the role of psychology in financial investment is crucial.
In fact, which asset to choose for financial investment does not depend on what you think the value of the asset is, but on what you think everyone thinks the value of the asset is.
How to make "smart" decisions based on other people's psychology?
After understanding this truth, we can know whether investment should be based on our own opinions or the opinions of others.
For example, if you see that a stock is currently priced at 50 yuan, you think its actual value is only 30 yuan. However, there is good news about this stock in the market at this time, which may cause the stock price to rise further irrationally to 80 yuan. At this point, how should you make a decision?
If it is a rational person in traditional economics, he will sell this stock short, because the current market price has exceeded its own value.
But in reality, shorting this stock would not be a good strategy. Just like a beauty contest, your main goal is to make a profit, and it doesn't matter who you think is beautiful or not.
When you think most people think it's going to go up, that's when you should buy.
This kind of decision-making method in reality cannot be regarded as rational, because rational people only make decisions based on the value of assets; however, this kind of decision-making is not irrational, because it can indeed make profits.
People who make decisions in this way can be called "smart investors", which is different from rational people and irrational people.
Foreign countries call this investment method the "smart money" effect.
Soros's investment method is very similar to "smart investors". When the price has exceeded the value, as long as the public psychology is expected to further push up the price, they will continue to buy more.
And Buffett's investment method is more similar to a rational investor. He can see the future investment value before the stock price reaches the value level and make the first deployment, but he will withdraw before the stock price reaches the value range, which is commonly said. value investing.
China's stock market is dominated by individual investors. Compared with developed markets with institutional investors as the main body, China's stock market is more irrational, and it is more common for prices to exceed values.
What you think of the market is actually not important; what you think other people think is what matters. Therefore, spending more time studying psychology is as important as we spend time studying investment objects, or even more important.
In the investment market, there are many seemingly complicated situations, but in fact, if we change our decision-making position, stand on the perspective of others, and use psychology to think, it is easy to understand and we can make correct judgments.
For example, trade frictions between countries will have a great impact on the stock market. How should we make decisions?
Many experienced investors will lock themselves up, use rich theoretical knowledge to think calmly, and will not be influenced by others. Is it right to do this?
The correct approach should be to pay more attention to stock forums and comments, not because these people are right, but because their decisions will affect the price of the stock.
local bias everywhere
Some people may ask, shouldn't stocks be bought with familiarity? Isn't that what everyone does?
Indeed, everyone is doing it. For example, in country-specific investment, the study found that investors from all over the world invest most of their assets in their own markets, such as 94% in the United States, 82% in the United Kingdom, and 82% in Japan. It is 98%.
This phenomenon is known as "home bias".
Home bias is a type of local bias. What is local bias?
For example, people from Shanghai may prefer stocks in Shanghai, and people from Sichuan may prefer stocks in Sichuan.
There are indeed studies that prove that people prefer local stocks. In 1984, the American Telephone and Telegraph Company AT&T was sued by the US Antitrust Bureau, and the local telecommunications business was split into seven independent small Bells and listed separately. After that, investors only like to invest in local small bells, and don't like to invest in foreign small bells, even though these small bells are exactly the same.
Therefore, this result can only be explained by investors' preference for local assets. This is local bias.
What else does local bias include?
For example, do you have a soft spot for the company next to your residence? Will you pay more attention to the professional company you studied? If your unit is a listed company, would you buy the company's stock? If you answered "yes" to the above questions, then there may be local bias.
But in fact, local deviation is the wrong way to allocate capital.
Where is the local bias wrong?
Simply put, the problem with local bias is insufficient diversification, which is relative to rational investment, adequate diversification.
So what is the diversification of investment? Diversification is risk.
What is the nature of risk? Please think about it, when you are most short of money, the stocks you buy lose money, which is called risk; or when you are the richest, the stocks you buy lose money, which is called risk?
Obviously, the first situation is called risk. When you are most short of money, the asset you bought also loses money, which makes you "worse". This situation is unbearable for you and you hope to avoid it as much as possible. This is a risk.
In the second case, you are not short of money, so a small loss in assets is not too important. Therefore, "adding insult to injury", that is, when the direction of change of this investment is consistent with the direction of change of your existing assets, it is called risk.
Once you understand what risk is, you will know how to properly spread risk:
You should not allocate assets that are consistent (positively correlated) with the volatility of your existing assets. For example, if you work in a real estate company, you should not allocate stocks in real estate companies, because this will make things worse.
You should allocate assets that are not correlated with the fluctuations of existing assets, or preferably inversely. When it comes to money, reverse fluctuations can help you, or reduce fluctuations and reduce your losses.
Here is a popular knowledge point. According to the industry allocation of stocks, it can be divided into two types: defensive and cyclical.
Defensive industry stocks are not sensitive to the economic cycle. Generally, when the economy shrinks, they are matched with defensive industry stocks, and the contraction is smaller than that of other industries. When the economy expands, cyclical stocks will expand faster than other stocks.
According to the classic asset pricing theory CAPM, there is only one risk source—the market, and all assets have a certain relationship with this risk source—the market. The greater the relationship, the more sensitive to the market and the greater the risk. It is conceivable that the concept of "adding insult to injury" refers to the meaning that one's own assets and the market fluctuate in the same direction. Therefore, if you want to reduce the risk, you can no longer allocate assets that fluctuate in the same direction as the market, because the "worse situation" will not be alleviated, but will become more serious.
What does the risk source of the broader market represent?
It represents the overall macro economy, and the main factor affecting the broader market is the country's macro economy.
Now, let's compare domestic stocks with foreign stocks to see which one is riskier.
Our greatest asset is actually our own human capital, or our own income. The main income of ordinary people is obtained in their own country, so their own income rises and falls roughly in line with the economic fluctuations of their own country.
The value of domestic stocks mainly depends on the company's operating conditions. The operation of domestic companies is closely related to the economic environment of the country, and has little relationship with foreign economies. Therefore, the rise and fall of the domestic stock price will be positively correlated with one's income or the largest asset. Think of it as "adding insult to injury" as well.
In comparison, foreign stocks have a much weaker relationship with the domestic economy and a much weaker correlation with their own major assets.
Therefore, from the perspective of capital allocation, we should allocate a certain proportion of foreign stocks to reduce the correlation with our largest assets and effectively reduce risks. Therefore, it is an allocation error to only focus on domestic assets. This is home bias.
Why is it wrong to buy the company's stock?
Of all the local deviations, the pit that probably the most people fall into is buying the company's stock.
Let's talk about an example of Enron Corporation to experience the huge risk of buying the company's stock.
Founded in 1930, Enron Corporation ranked No. 16 in the Fortune Global 500 in 2000. It is the largest natural gas purchaser and seller in the United States and a leading energy wholesale market maker. From 1996 to 2001, "Fortune" magazine rated Enron as "the most innovative company in America" for six consecutive years, and in 2000, Enron was named "100 Best Employers in America" by the magazine.
Against this background, Enron employees would of course hold a large number of Enron stocks, which they believed to be the safest and highest-returning investment.
However, this huge empire suddenly went bankrupt. We don't talk about the reasons for Enron's bankruptcy. These contents can be easily found, and it is also a very interesting story. Let's just talk about the consequences of bankruptcy.
The year before Enron's bankruptcy, Enron's stock was $90 per share, and it was less than $1 after the bankruptcy. The retirement savings of the company's 20,000 employees invested in the company's stock were wiped out, costing them billions of dollars. Not only did these people lose their jobs and income, but they also lost their retirement income, and the consequences were dire.
The Enron case is no accident. Studies have found that in the United States, company employees like to buy the company's stock. The employees of the company will invest 30% of the assets in the enterprise annuity into the company's stock.
From the case of Enron, it can be found that one’s salary is taken by this company, which is the greatest asset of the individual. If the investment is also allocated to the same company, this is an extremely concentrated investment, which runs counter to the concept of decentralized investment. huge risk.
The risk does not necessarily occur, but it does not mean that it does not exist.
Psychological causes of local bias
From a psychological point of view, this is because people have the psychology of ambiguity and avoidance.
Ambiguity is a kind of uncertainty. Compared with risks that are also uncertain, ambiguity means not even knowing the probability of occurrence of uncertain events, which is more unbearable than risk. You must know that the concept of fuzzy does not exist in the world of rational people, and it is conceivable that robots have infinite cognitive abilities. But real people have limited cognitive abilities, and if they don't understand many things, they will feel vague.
Humans hate this ambiguity so much that they choose its opposite, the relatively familiar.
The same is true for investing. Investors think that their home market is more familiar or less ambiguous than foreign markets; geographically closer ones are also more familiar; their employer's stocks are more familiar. They mistakenly think that allocating familiar assets is more risky than diversifying their investments Small.
But in fact, this is not a rational risk diversification. Rational risk diversification needs to calculate the variance and covariance matrix of returns under various circumstances to achieve the best risk-return balance.
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