Booms & Busts, Neuroscience, & Investor Behavior with Douglas E. French

November 30, 2010

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Notes :

  • Neuroscientists conducted a boom and bust simulation where 52 people agreed to be hooked up to MRIs with each given $100 to invest.
  • Unbeknownst to the participants, the simulations were replays of the 1929 and 1987 crashes – all lost money in the first and most did in the second simulation.
  • The idea was to study when dopamine lit up different locations of the brain with each location associated with different emotions.
  • Relatively calm activity  markets lulled the participants into a state of stupor, leaving their  brains calm.
  • “Regret is the difference between what is and what could’ve been” and produces the most dopamine.
  • You only get a dopamine kick when you get what you don’t expect, which in turn, propels one into action at in opportune times.
  • Dopamine also dries up if predicted events fails to happen.
  • Uncertainty and insecurity drives man to make predictions.
  • Nash’s studies on group think show that people will knowingly make the wrong decision just to go along with the crowd 70% of the time.
  • Emory University scientists found people who broke ranks with the group had their brains light up in areas typically associated with negative emotions.
  • Entrepreneurial activity is driven by the expected rewards associated with a dopamine kick.
  • The boom begins, a tolerance is built up, and more and more risk must be taken to achieve the same effect, which combined with crowd psychology, leads to irrational exuberance.
  • People fail to learn from their mistakes because they rely on faulty memories, called hindsight bias.
  • Prediction failures leads us to distort memories in order to cope.
  • Finding an external source to blame also helps investors cope, but results in a failed opportunity to learn, and thus, most investors repeat the same mistakes.

source : youtube (skip the first 5 minutes)

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