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A cautionary note: Focusing on all this brain science can get you into trouble as often as it helps you. Increasingly, folks are reliant on behavioral finance as a panacea of investing knowledge. It isn't. Like all fields, Fisher Investments Press author Michael Hanson believes the behavioral sciences help us get perspective on investing, but they have their shortcomings. So before moving on, Hanson would like to illustrate the perils of behaviorism with a personal example.
About a year ago, Hanson sat in on a behavioral finance conference, and he admits to dozing once or twice. It happened somewhere between the crash course in hedonomics, the study of happiness and economics (happiness at a finance seminar…the very idea!), and a 40-minute presentation on the history of annuities.
In a moment of greater lucidity, Hanson witnessed an inexplicable, if not truly bizarre, presentation. It had a two-pronged approach: First, to prove the US housing market was in a downturn (this was early 2008, mind you). Simple enough, and true. Second, to assert that—based on behavioral research—policy makers ought to force owners to hedge the value of their homes.
What!?
Never mind that housing prices have been rather docile over the long term and hardly justify the capital necessary to hedge. Never mind that nothing ever really stopped investors from hedging the value of their homes in the first place. None of that seemed to matter. Because the housing market was in a downturn and some were overextended and even faced foreclosure, the situation was “undeniable” behavioral evidence we need to mandate an insurance system to make sure no one ever loses money on their home again.
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