I just had the opportunity to listen to a podcast with Dr Colin Camerer that I thought was very interesting. If you click the link there are two interviews. The first is with James Rickards and worth the listen (it’s the reason I listened to the podcast in the first place), but it’s the last one, with Dr Camerer, that I want to write about today. It has implications for people with addiction who want to invest in financial markets to fulfill their responsibilities to others to maintain the wealth they create.
What he said was so interesting to me that I started to look up his other work. I didn’t realize anyone had done these studies or confirmed conjectures I’d been using to treat addiction. To find someone outside of the addiction field doing it is amazing.
So the upshot is that using fMRI to study people who are trading an imaginary stock for real money in a situation where the actual value of the stock is known, bubbles still happen. The group still runs the price up above where they all know it belongs and they do it knowingly. They know that, for instance, the fair market price is 14 and when the project ends the price will be 14 and yet they still run the price up to 15,16,17 and higher.
He noted there were three groups of people. The first group, see the bubble and don’t participate. They weren’t very interesting to him, but I bet they were pretty good value investors. The second group he noted were those that rode the price up and sold too slow to get out in time, and the third group were those that bought on the way up and dumped quickly. The last group were the most successful. Something to note though is that everyone went through this only one time, so you really can’t tell if people were “smart” or lucky. It may very well be that people switch groups after they learned from mistakes, but he’ll have to look at that in future studies.
With that background, let me tell you what he found on fMRI. The first group, the ones that stayed out. Their Insula lit up while watching the price feed. The group that lost money, their Nucleus Accumbens lit up while trading. So why is that important?
The Inusla is a sort of internal perception engine. It tells you if you have a fever, if you’re eating something disgusting, if someone is making a bad face at you, if your dopamine level is too low, or any other “bad” internal signal. The Inusla is the part of your brain that says, “Look, something is wrong here. I don’t know what it is, but figure it out, because it could be a saber tooth tiger.” There’s another part called the Cingulate that is designed to tell you how urgently you need to fix this and get you motivated, sort of like “Wow, that is a tiger. Run!!!!” or “No, you just have a fever. Lay down.” So that group that stayed out of the bubble, took a look at the prices rising and knew there was something wrong. They didn’t feel the need to ride it up. They could take a look at the prices, see they were irrational, and sit there doing nothing. Wow, how many people can do that? But that’s what a normal brain does.
Now the people who lost the most had the Nucleus Accumbens light up when they traded. That tells me they were getting reward. There’s a funny thing about people with normal reward levels, that is, normal levels of dopamine at the Nucleus Accumbens. They don’t get reward from stuff like trading and their Insula works fine. But if you are low in dopamine, your insula isn’t fine and stuff like being right on a stock gives you a big lift. That doesn’t sound like a problem, but the other part of that dopamine hit in an otherwise low dopamine Nucleus Accumbens is that it sets up an association to the reward. If you get reward from trading stocks, you’ll want to trade stocks. If you get reward from watching porn, you’ll want to watch porn. If you get reward from shooting heroin, you’ll want to shoot heroin. Or maybe you’ll want to shoot heroin while watching porn while trading on your Schwab account. Good luck with that.
If you trade for reward, you aren’t trading for profit, and you’ll lose money. Investing should be boring, not exciting. If you have addiction and someone gives you a reward, you’ll form an attachment and do that thing more than is good for you. See the connection?
So what about the other people, the ones Camerer calls the smart money. They bought even though they knew it was a bubble, but they got out in time. How do I explain those people? Well, until Camerer does this again, I’m going with “they were just lucky.” I know investors who can look at a rising market and say, “Wow, that’s a bubble. There are some really stupid people that are going to run this thing up past it’s fair value. I can get on board and be ready to get off early before they all figure out they’re stupid,” but I don’t know many of them. Most people I know who participate in bubbles have an almost religious devotion to the belief in whatever is bubbly and instead of seeing an impending top they just see a new buying opportunity. The normal people among them learn after a few times and just avoid bubbles. I believe it is those people with addiction, low dopamine at the Nucleus Accumbens, that are getting a perceptible dopamine spike and reward from trading who can’t get out in time. They get attached because of the dopamine spike and can’t relate rationally to the rewarding event. They don’t get the signal from their Insula that something is wrong for two big reasons: the Insula is already saying something is wrong because of the low dopamine state, and the event precipitates brief normalization of dopamine and a relief of anything that’s wrong. So where a person without addiction is seeing more risk, a person with addiction sees, not risk, but something wonderful that there should be more of.
So if you have addiction, should you not invest? No, that’s not what I’m saying. I will say you shouldn’t day trade or even trade much at all, but investment is great. In fact, value investing is a wonderful long term way for addicted people to gain wealth, and like all functions in recovery, it’s best done in groups. You can’t go very far wrong with a group conscious. I may like IBM and think it’s undervalued but if 4 other sane sober minds who have read they same thing I have think it isn’t, it probably isn’t, especially when I’m sure it is. In fact the more sure I am that everyone else is wrong, the greater the probability that I’m not thinking right.
Another important recovery tool in successful sober investing is inventory. “We bought IBM at 115 because we thought it was undervalued and we said we’d be wrong if it fell to 100. It did; we were wrong.” If you can’t say you’re wrong when you’re wrong, don’t invest.
So until we all have fMRI headsets at home, we’ll have to use recovery principles in this field of endeavor, just like any other field of endeavor, in order to stay on track.