Economics is based assumptions, approximations of how the big bad world really works. Some of them are sensible, some of them. less so. Perfect competition, for instance, that one always cracks me up. Perhaps the hardest assumption to swallow is the concept of the rational economic man, the idea that people are strictly logical, centered on a clearly defined goal and free from the unsteady influence of emotion or irrationality. Does this sound like the sort of person you see in the mirror each morning?

The truth is the rational economic man assumption is a poor indicator of human behavior. It doesn’t predict how the big bad world really works and it sure doesn’t apply to HSX. But fear not! As a recent-ish article in The Economist (18 December 1999) shows, economists aren’t letting man’s fundamental irrationality get in their way.

Let’s take a look at some of the attempt to explain irrational behavior and see how they apply to HSX (quotes taken directly from The Economist):
Anchoring.
“People are often overly influenced by outside suggestion. People can be influenced even when they know that the suggestion is not being made by someone who is better informed. ” So maybe all those shills on Ticker Talk work, after all? Also, possibly a pointed reference directed at the various HSX columnists. Some columnists are better than others, that goes without saying. But perhaps it doesn’t matter how good or bad they are, people will follow them anyway. To my mind, though, this is Max through and through. We all know he talks crap but we still follow him.

Availability Heurism.
“People focus excessive attention on a particular fact or event, rather than the big picture, simply because it is more visible or fresher in their mind. ” And the big chant on Ticker Talk goes, ‘one factor analysis’. I’ve heard all the following – I’ve even said a few – “Martin Lawrence can’t open” (Blue Streak), “Never bet against animals in horror films” (Bats), “Too similar to Mercury Rising” (The Sixth Sense), “Most of us would rather watch Schwarzenegger or Brosnan save the world” (Toys Story 2), and my personal favorite, “It’ll never do those numbers on 1,000 screens” (The Blair Witch Project).
Cognitive Disorder.
“Holding a belief plainly at odds with the evidence, usually because the belief has been held and cherished for a long time. Psychiatrists sometimes call this ‘denial’. ” This generally happens when a stock has been trading at an unrealistically high level for some time. The stock suddenly drops sharply then stabilizes. It’s all too easy to think that the stock will ‘naturally’ return to its previous level, rather than examine whatever new evidence is out there. How many of us have bought back in, waiting for the upturn, only to suffer big losses when the stock drops again? Stocks prone to this kind of behavior included The Green Mile and Man in the Moon. In fact, virtually all of last December’s releases.
Compartmentalization.
Making “choices about things in one particular mental compartment without taking account of the implications for things in other compartments”. When box office news comes in, movie stocks move like a rocket. However, warrants and bonds don’t. The next time some unexpected box office news comes in, check the bond charts, and cash in before the herd.
Hindsight Bias.
“Once something happens, [people] overestimate the extent to which they could have predicted it. Closely related to this is memory bias: when something happens people often persuade themselves that they actually predicted it, even when they didn’t”. This sounds terribly familiar. You briefly making a trade, then reject it for whatever reason. A couple of days later, the stocks moves, and you find yourself counting the profit you would have made. Suddenly, you have an awful lot more confidence in your ability to predict the market. Of course, what you’ve forgotten is all the ideas you rejected that would have lost you a packet.
Magical Thinking.
“Attributing to one’s own actions something which had nothing to do with them, and thus assuming that one has a greater influence over events than is actually the case. For instance, an investor who luckily buys a share that goes on to beat the market may become convinced that he is a skilful investor rather than merely a fortunate one. He may also fall prey to quasi-magical thinking – behaving as if he believes his thoughts can influence events. ” Again, columnists and Ticker Talk posters everywhere, time to bow our heads in recognition.
Representative Heurism.
“A tendency to treat events as representative of some well-known class or pattern, This gives people a sense of familiarity with an event and thus confidence that they have accurately diagnosed it. This can lead people to ‘see’ patterns in data even where there are none.” Oh gawd, that’s me.

I have the horrible feeling that the vast majority of these apply to, well, to me at least. If you can honestly say that you’ve escaped them all, I doff my hat to you.

-Huy