The market is a crowd, and if you’ve read Gustave Le Bon’s The Crowd, you know a crowd is a composite personality. In fact, a crowd is like a woman’s mind. Then, if you have observed her a long time, you begin to see little tricks, little nervous movements of the hands when she is being false” — Adam Smith, The Money Game
“Do stockmarkets have a personality?” asked Kavi Kumar, at the start his speech. Kumar had been asked to speak at a conference, “Sensex 15000?” He had heard speakers passionately arguing about the fact that India was on a growth path. And there was only one way the Sensex was heading, and that was up. Kumar was amazed at their confidence. All of them seemed so confident about the index going up, without really having a strong reasoning for it. Kumar was no bear himself, but he felt that there had to be a method in the madness. And this made him start his speech with a question. Kumar remembered reading a book, Irrational Exuberance, by Robert Shiller. He spoke a few lines from the book for the benefit of the audience. “A fundamental observation about human society is that people who communicate regularly with one another think similarly. There is, at any place and in any time, a zeitgeist, a spirit of times.”
“And this spirit of the times, transforms the thousands of isolated individuals who form the stockmarket, into a psychological crowd, which displays a conscious personality. At an individual level, stockmarket investors are very different, but the fact that, on a whole, they have been transformed into a psychological crowd, gives them a collective mind. Their individual decisions lead to the collective decision of the market. As they say, the market has a mind of its own,” continued Kumar, trying to emphasise on the personality of the market.
“So is the collective mind of the market better?” asked Kumar, putting forward the next question and then trying to answer it. “The answer to this question can be found in the book, The Wisdom of Crowds, by James Surowiecki. Surowiecki says, ‘The idea of wisdom of crowds is not a that a group will always give you the right answer but that on an average it will consistently come up with a better answer than any individual could provide. That’s why the fact that only a tiny fraction of investors consistently do better than the market, remains the most powerful of piece of evidence that the market is efficient’.”
“But if the market is so efficient, why are there stockmarket bubbles every few years?” asked Kumar, trying to contradict himself. “Well, this collective mind of the market makes individuals act, feel and think in a way which might be very different from the way they would do individually. As Surowiecki points out, “In a bubble, all of the conditions that makes groups intelligent — independence, diversity, private judgement — disappear.” If a person wants to invest, the chances are he will look around to see what his acquaintances, neighbours or relatives are doing with their money. If the people around the potential investor invest in a certain way, there might be a tendency for him to follow them. Decisions of investors, in such situations, are not made at the same time but in a sequence. People who invest in such situations assume that investing in a particular stock is a good bet simply because some of the people they know have already invested in it.”
“And that, ladies and gentlemen, brings me to the final point. Has Sensex reached such a stage, wherein people are investing in the market just because everybody else is,” Kumar, made his concluding remarks.
The example is hypothetical