I love the questions kids ask. This week my first-grader told me that he had heard the word “caricature” and wanted to know what it meant. I explained it, and then we went online to see some examples. In our highly politicized culture, we didn’t have to look far to see some exaggerated cartoon depictions of various political leaders.
It occurred to me, though, that our posture toward investments is not all that different. Oftentimes, financial commentators take a similarly one-dimensional, overly simplified view of things. The past several weeks have been a good case in point. First, in response to a government economic report, stocks dropped about 10 percent through February 8th. Then, in response to no news in particular, the market began to rebound and has since made up more than half of what it had previously lost.
What will happen next? Turn on the TV, and you will hear opinions of every stripe. On one side, an esteemed Nobel Prize winning economist will tell you that the market is at 1920s-like highs. Others, however, will tell you that the new policies in Washington could drive the market higher for years. If you are finding this all a little disconcerting, here’s what I recommend:
Recognize that most of what financial commentators are saying is incomplete. Putting aside the impossibility of being able to predict the future, no one person even has all of the current data. As a result, every opinion you hear from pundits is necessarily an overly simplified story, based on the information they have, or that they are choosing to cite. The fact is, if you’re in the business of giving your opinion, you’re going to sound much more convincing if you pick some piece of data to point to and make a strong statement than if you go on TV and say, “Gee, I really don’t know.”
Recognize that many financial commentators have a vested interest in making you react. Take, for example, those polished-looking brokerage firm analysts who regularly appear on TV. What is their role? They speak and publish regularly in an effort to get you thinking about your investments, with the hope that you will decide to make a trade — ideally through their firm.
Recognize that more information won’t necessarily help you make better decisions. A classic 1987 study proved the detrimental effects of the media on individuals’ financial decisions. Psychologist Paul Andreassen created a simulated stock market environment and examined people’s trading behavior under two different conditions. One group was provided with daily price quotes for a group of stocks. The other group was provided with the same quotes but was also provided with news headlines about those companies. The result? The test subjects who also received the news headlines engaged in more trading and realized lower profits in their accounts.