How to Flee the Flock

At different times in our history, political operatives would plant applauders in the audience when their candidates made speeches. The rest of the audience would usually follow. The newspapers would then report the candidate was well-received.

The mother of a famous American comedian Milton Berle sat in the front row when her son performed. She would start to laugh hysterically when a joke fell flat. The "flock" usually followed.

George Evans once managed Frank Sinatra's career. Explaining Sinatra's meteoric rise in the early '40s, Evans said "...Sinatra's talents provided an 'initial impetus'. His [Evans'] own planting of 'organized and regimented moaning' in Sinatra's crowd accounted for some of the panic." ("Prechter's Perspective")

In a crowd, it's easy and comfortable to do what others are doing, especially when emotions are running high, like at a concert. Or when your money is at stake.

The absolute majority of investors are unsure whether to buy or sell -- they simply do as others do. Herding happens. It's a natural process: "...emotional impulses from the limbic system impel a desire among individuals to seek signals from others in matters of knowledge and behavior and therefore to align their feelings and convictions with those of the group. 'Wall Street' certainly shares aspects of a crowd, and there is abundant evidence that herding behavior exists among stock market participants." (Robert Prechter, Science is Revealing the Mechanism of the Wave Principle.)

We've all been there. Surely you can remember yourself unwittingly believing the last few people you heard who offered a market opinion: they have a fancy title under their names, and they are on TV, so they must know. But the 2007-2009 financial crisis revealed yet again that the Wall Street crowd is often wrong; the fact that they had to be bailed out with taxpayer money is a tacit admission of that.

In fact, crowd psychology in the financial arena is often used as a contrarian indicator. You probably remember how bullish CEOs and mainstream experts were in 2007, just before stocks tanked. Yet early in that year, here is what readers saw in the March issue of EWI's Elliott Wave Financial Forecast:

"The percentage of Investors Intelligence bulls has been equal to or greater than the percentage of bears for 228 straight weeks. The streak of bullish weeks is now 50% longer than the second longest streak, which took place through the all-time highs in 2000 and was followed by a devastating decline to the lows of 2002/2003."

Those in 2007 who realized the pendulum had swung too far in one direction got out in time. Those who remained with the flock were led to financial slaughter. Today, the same experts are bullish again. They use the same indicators they did in 2007 -- how do you know they will be right this time?

Eduard Hamamjian Managing Director
GeaSphere LLC