

The foolishness of crowds: Investors tend to chase the latest fad  - yarapavan
http://www.economist.com/node/18529721

======
po
_If you see a crowd outside a department store it is reasonable to assume that
there is a sale. If you see a queue outside a bank there is a good chance that
nervous depositors are trying to withdraw funds. In both cases the actions of
other people send a signal that may be useful for others to follow.

But does the wisdom of crowds apply to investment?_

The 'wisdom of the crowds' concept is not applicable here. In the example of
the cow auction, the core idea is that a crowd of people all voting
anonymously _but without communicating with each other_ was better than any
expert at the auction when averaged together.

Communication within the crowd _hinders_ the wisdom of the crowd. If people
are allowed to see the votes of other people before they vote, then herd
mentality dominates. To work best, each person must make their decision based
on their own out-of-band information network, gut feeling, voodoo magic or
whatever. If they can see what other people are doing, then they will short
circuit their normal decision process and react to that.

This is the problem with a lot of implementations of "crowd intelligence"
gathering software and rating systems. This is why many polls don't show you
the totals until after you vote, and why exit polling is bad.

(as an aside, this is also why I've been a huge proponent of removing vote
tallies on HN comments. I'm excited to see pg is playing around with it and to
see if it helps.)

Edited to add:

The article states:

 _The wisdom of crowds only really applies when forecasts are genuinely
independent, as when farmers are guessing the weight of a bull at a country
fair. Once you know what others are thinking, their views lead you into
error._

It's more than just that. It needs to be a diverse set of people to get a full
range of opinions. A group that all pulls information from the same source
will estimate incorrectly. For example, if CNBC were to become the sole source
of information for the average investor, it wouldn't work.

There are also several cognitive biases that come into play and it's a lot
more complex than just keeping people in the dark.

------
Gaussian
All true, obviously. That's why there's real power in rebalancing your
portfolio on a regular basis. It forces you to push money into sectors that
have headed down and pull money (take profits) from sectors that are up.

~~~
hristov
And if a sector dies completely, regularly rebalancing your portfolio will
ensure that you waste the maximum amount of money for that sector.

------
known
You call it as _latest fad_. Investors call it as _has potential_.

------
jacques_chester
The "value averaging" strategy provides an emotionless way to follow the
advice to buy low and sell high while buying an index.

The idea is to fix a regular amount you want to increase your portfolio by,
say monthly.

Let's say it's $100.

The first month, you buy $100 of shares. Total share value: $100.

The second month, your share value has fallen to $80, so you buy $120 of
shares. Total share value: $200.

Third month. Shares have surged and are now worth $250. You buy $50 of shares.
Total share value: $300.

Fourth month. Shares continue to surge. Your portfolio is now worth $420. You
sell $20 of shares and place the cash in reserve. Total share value: $400.

Described in detail by Michael Edleson:

[http://www.amazon.com/Value-Averaging-Strategy-Investment-
Cl...](http://www.amazon.com/Value-Averaging-Strategy-Investment-
Classics/dp/0470049774/)

Probably the first "intelligent layperson" investment guide I've ever seen
with instructions on how to perform monte carlo simulations.

