This week, we welcome back William J. Bernstein, Ph.D., M.D. (See our 2019 MiB) He is a retired neurologist, principal in the money management firm Efficient Frontier Advisors, and author of several best-selling books on finance and history. He was the winner of the 2017 James R. Vertin Award from CFA Institute. His new book The Delusions Of Crowds: Why People Go Mad in Groups was just published.
He discusses how the vectors and mediums of “infections” that lead to mass delusions. He explains why people are “cognitive misers,” with narratives as causative agents. The more compelling a narrative is the more corrosive it is to our analytical abilities. Two of the most compelling narratives: Apocalyptic “End of Days” stories, and “effortless riches.”
Bernstein notes the Manichean philosophy of simple “duality” — everyone or thing is either good or evil. This binary approach to reality with no shades of grey is a vast oversimplification — effective in keeping us alive on the savannah, but causing trouble in the modern capital markets.
The human Limbic system is “everything. To the extent you succeed in finance, you succeed in finance by suppressing the limbic system, your system 1, which is the the very fast moving emotional system. If you cannot suppress that, you are going to die poor.”
From an evolutionary perspective, there is very little cost to our “patternization” — false positives carry no cost, but false negatives carry the ultimate cost. It also makes sense that we attend more to bad news, while ignoring good news. To the modern investor, both of these evolutionary traits lead to expensive errors.