Updated: Jan 11, 2021
Imagine you step out of your office building and see people in a panic, running in one direction. What would you do?
In this age of terrorist attacks and gun violence, odds are you won’t stop to ask questions - you’ll instinctively panic and join the stampede to get away from danger, classic herding behavior. But what if everyone was running to plunge into a shark-infested river?
The concept of instinctively following the pack is called “herding.” Herding is obviously valuable in certain cases, or it wouldn’t be hardwired for humans. For example, people tend to feel safe and supported when in a community working for the same cause i.e. student organizations, religious groups; etc. But herding can be dangerous in other settings, including bullying behavior in schools or even gang violence.
When it comes to making financial decisions, herding can be particularly disruptive, result in “irrational” financial decisions and can stand in the way of making money. Some famous examples of the dire consequences of herding include “The Tulip Bulb Craze” (1600s), “The Dotcom Bubble Burst” (2001-2002), and the “Credit/Housing Bubble Burst” (2007).
Cryptocurrency is arguably the latest tulip craze.
Since the introduction of Bitcoin in 2008-2009, there are now more than 1000 different cryptocurrencies in the market. We’ve all heard stories of people getting rich “overnight” on these currencies; it’s tempting to jump on the bandwagon and invest.
With consideration to the inflationary issues in the pricing of these digital assets, regulatory issues, and the opportunities for cyber criminality, the potential of a crypto “bubble” is becoming more and more likely.
Avoid Being a Sheep Investor
So, when it comes to making investment decisions, how can you personally avoid falling prey to herd mentality?
Do your own research! Consider all perspectives and ask questions!
Develop and follow your own disciplined investment approach in order to avoid emotional investment decisions.
Take time to understand the business you are investing in, not just the stock.
Avoid timing the market to find the best stock price.
Do not chase trends. By the time you find a trend, it’s probably too late anyway. As Warren Buffet said, “buy when others are fearful and sell when they’re confident.”
Today, you can easily resist the urge to make herd-based investments as the information that you need is literally in the palm of your hand.
One tool available to you is the Portfolio Shepherd app by ETFication. The app is designed to help cut out the noise by allowing you to easily learn financial concepts and strategies. With Portfolio Shepherd, you will be empowered to be an alone investment wolf while avoiding the meandering pack.
How do you make your investment decisions?
Sources & Suggested Reading:
Herding Behavior and Contagion in the Cryptocurrency Market (or if you don’t have access to science direct, check out a review of the article)