So does wisdom come from age? And not necessarily just age, but what about experience? Compelling evidence has determined that experience and age have indeed contributed to some additional wisdom, and as it relates to the financial markets, experience and age is crucial. It is the idea that sentimental investors from specific events will drive stock prices to extreme levels in which a contrarian group of investors will readily identify this price action. By which they will step in, calculate the value, and in fact be optimistic in the face of pessimism. From the data collected and other evidence, it will be shown that experience and age are much needed qualifiers in order to step in and buy in the face of pessimism or to step in and buy the under performing stock. It is because if you wait for the robins, spring will be over” (Buffett, 2008). In short, bad news is an investor’s best friend.
Betting against sentimental investors is costly and risky. The “dot com” bubble pushed stocks to overvalued levels due to over optimistic sentiment; however, that same overreaction pushed stock prices to undervalued levels following the burst in the tech bubble (Baker and Wurgler, 2007). Thus, contrarian investors have formulated an investment strategy on the premise that the stock market overreacts to news, so winners tend to be overvalued and losers undervalued (Chan, 1988).
De Bondt and Thaler (1985) expanded on this overreaction idea and developed their investor overreaction hypothesis. Data collected from 1926 to 1982 was used to form portfolios of the 50 most extreme winners and 50 most extreme losers. De Bondt and Thaler (1985) subsequently determined that over the five-year test period, the portfolio of losers outperformed the winners by an average of 31.9% (De Bondt and Thaler, 1985). Thus, when broader markets, or more specifically stocks, sell off causing pessimism to prevail amongst a significant portion of investors, a contrarian group identifies value in these financial instruments and is thus rather optimistic– not pessimistic.
To give credence to these strategies, one must look at one of the most successful stock market investors of the past 30 years – and it’s by no accident. Hagstrom (2005) identified that Buffett utilizes a long-term investing strategy. He puts no credence in day-to-day movements in share price because the long-term value of a stock is determined by economic progress of the business. Thus, he buys a business, not a stock (Hagstrom, 2005). Moreover, market inefficiency driven by emotion generates valuable opportunities and thus price declines are welcome. “I haven’t the faintest idea as to whether stocks will be higher or lower a month- or a year- from now”, Buffett says. “What is likely however is that the market will move higher, perhaps substantially so, well before either sentiment or the economy turns up. So if you wait for the robins, spring will be over” (Buffett, 2008). In short, bad news is an investor’s best friend.
The data complied is rather diverse in that it encompasses many different individuals– whether they be retail (or individual) investors, professional investors, investors with varying experience, and investors with varying backgrounds. The data was narrowed down from the original ten blogs to five. From the five blogs, three of the bloggers have relatively high experience while the remaining two have low experience. The two bloggers that were identified as having relatively low experience ranged from having a mere 5 years to relatively low 10 years experience. And the three experienced or seasoned bloggers, each had well over 20 years experience.
The data was complied through thorough content analysis of ten blogs that were refined down to five. After complying ten blogs, all of which contained four individual postings, they were summarized in a short tweet-like fashion. The summaries were strictly factual as to adhere to objectivity, reliability and validity. After summarizing all of the blog entries, they were organized in a manner to represent a certain theme. After analysis of the blogs and summaries, it was determined that age and experience as well as optimism and pessimism characterized a majority of the data.
The typology created for the bloggers was somewhat arduous because the data was rather diverse. After collecting the data, it was determined that the most efficient and logical way of evaluating the data was to identify sentiment, whether it was optimistic or pessimistic, and relate that to their age and experience. From the five blogs, three of the bloggers have relatively high experience while the remaining two have low experience. The two bloggers that were identified as having relatively low experience range from having a mere 5 years to relatively low 10 years experience. Additionally, it was determined that due to their inadequate experience, they were found to be more pessimistic on the financial markets. Incidentally, the three bloggers with high experience in the markets have all demonstrated optimistic views even in the face of negative news. In a sense, their experience has guided them to a more contrarian type attitude towards the market.
The first blogger, Mike, who has only five years experience, is consistently negative on the markets. The blogger recommends not buying stocks indicating the markets were overbought; however, in a more recent blog post he concedes that the markets continue to rally and may hit new highs for the year. The next blogger with low experience has been consistently pessimistic throughout his postings. He indicated he was short several stocks, thus betting on the stock to drop to profit from his trade. Additionally, he later indicates that he lost money on his short position. This second blogger has 10 years experience as well as a Masters Degree in Finance. While the education may be impressive, how one translates that education into performance in the markets is more crucial.
From one of the blogs, a more seasoned blogger, Jim Cramer, talks about the government pulling the stimulus out of the economy, which he indicates, will slow growth and the market; however, he believes government stimulus is unsustainable and longer term this is a positive for the market. Another example about his optimism relates to the generational low experienced in February 2009. While the markets were plummeting he tallied up some possible bankruptcies, did some math, and came to Dow 6000 and estimated the market could not go much lower. In a sense, he called a generational low in the market. Also note that Jim Cramer has well over 30 years of experience with the market and has managed money for nearly 20 years.
The last two bloggers both have roughly 25 years of experience in the market. The first, Jim Goldman who analyzes tech primarily, indicated that both Palm and Research in Motion reported disappointing earnings relative to the street’s estimates. While the stocks both took nose dives and may be losing share to Apple, Goldman cited that the market for smart phones is large enough for all of the companies. He continued to say that both have long-term positive prospects, especially, Palm who has plenty of cash on their balance sheet to make some moves.
The last blogger, Bob Pisani, also reveals optimism in the face of a pessimistic market. He said in one such instance that many traders are very cautious about buying stocks especially with the downgrade from Alcoa, who kicks off the earnings season. He indicated there was a consensus that due to the downgrade there could be weakness ahead in the markets. Other views among the street were over priced stocks and rising costs that would put pressure on company’s margins. But with all the pessimism in the market, he indicated in a later blog post that companies will beat forecasts and that stocks will continue to “melt-up” to new highs.
From five blogs, it was determined that two of the bloggers exhibited low experience and consistent pessimistic views, while the remaining three bloggers exhibited high experience with relatively optimistic views even in the face of a pessimistic majority. So from the data collected, it was determined that high experience relates to a more optimistic outlook. In two of the studies, it was discovered that markets overreact because events such as the “dot.com” bubble can drive sentimental investors to drive stocks, in this case, too low. Thus, Chan (1988) and De Bondt and Thaler (1985) both conducted research that discovered that a portfolio of losers outperform winners. So it can be said that when broader markets, or more specifically stocks, sell off causing pessimism to prevail amongst a significant portion of investors, a contrarian group identifies value in these financial instruments and is thus rather optimistic – not pessimistic.
How is it sociologically relevant? A famous 20th century sociologist, Robert Merton, was credited with the term self-fulfilling prophecy. The idea here is that a prophecy declared as truth when it is actually false may sufficiently influence people, either through fear or logical confusion, so that their reactions ultimately fulfill the once-false prophecy. Additionally, Thomas Schelling wrote about cases where the “aggregate [is not] merely an extrapolation from the individual.” It is a factor that underlies why markets are so hard to predict because “people’s choices depend on the behavior or the choices of other people,” and we cannot predict aggregate behavior by “simple summation or extrapolation [from individuals] to aggregates.”
Baker, M., & Wurgler, J. (2007). Investor sentiment in the stock market. The Journal of Economic Perspectives, 21(2), 129-151.
Buffett, W. E. (2008). Buy American. I am. The New York Times,
Chan, K. (1988). On the contrarian investment strategy. Journal of Business, , 147-163.
De Bondt, W. F. M., & Thaler, R. (1985). Does the stock market overreact? Journal of Finance, 40(3), 793-805.
Hagstrom, R. G. (2005). The warren buffett way Wiley. Hoboken, NJ.