Wednesday, January 12, 2011

Are DIY Investors Doomed by Their Reptilian Brain

I've read various articles over the years that talk about how the brain evolved over the eons and that people still have vestiges of their reptilian brains at the core of their brain and spinal cord. This part of the brain controls most of our emotional responses to external events such as fear, greed, anxiety, or self-preserving behavior, things that might be called gut reactions.  When the reward center of the brain is active, people take more financial risk.  When the anxiety center dominates, people tend to retreat from financial risk.

The enemy of the DIY investor is emotion.  The natural human response to rising markets is that fell good emotion of putting all the poker chips into game in the misguided belief that markets only go up; in falling markets, peoples' instincts are to take their money out of the market to preserve their cash-- precisely the wrong reaction in both cases.  CNBC and Fox Business scream buy, sell, buy, sell all day long to anyone who tunes in.  A parade of experts are trotted out to get the emotions churned up.  After all, TV is about sensationalism.

What's a DIY investor to do?  Turn off the stimulus.  Don't watch the business news channels except on rare occasions.  Don't check investment prices everyday.  But do develop a long-term investment plan based on a diversified asset allocation strategy.  Do practice dollar cost averaging religiously.  Do plan on investing for 30-40 years.  Turn off all that stimulation to reptilian brain that can cause you to do dumb things like move to cash at market lows.  I can't tell you how many people I knew that did that in 2008-2009, which was the buying opportunity of a generation.  They missed a gigantic upside move in prices like they will probably never see again all because their reptilian brain kicked into fear mode and their instinct for self-preservation took hold.  As John Bogle and the White Rabbit in Alice in Wonderland say:  "Don't just do something, stand there."  For long-term investors, that is the wisest advice of all.


  1. "dont just do something, stand there" is also good advice for government bureaucrats, but one that is not likely to be followed. I'm used to keeping a large cash position, just in case buying opportunities come about. That means that my returns are not as high as they could otherwise be, but I'm OK w/ that.

  2. You've made a good case for having a plan. Many DIYers do it backwards. They spend all their time trying to pick some stocks or the best mutual fund and give very little thought to how they are going to weather the downturns etc. When the market turns down they have a much more risky position than they thought and so they panic.
    Their next step many times is to throw up their hands and hand over what is left to an expensive advisor.