Don’t Let Yourself Be Conditioned to Think With the Herd

We are headed into a slow recession,’ was what my friend (who runs a very successful long/short hedge fund) told me when we chatted yesterday.

He’s taking positions within his fund for this eventuality.

Australia’s GDP barely registered in the positive in the second quarter. The results caught economists and currency markets by surprise.

We are wired for growth. Population growth. Wage growth. Portfolio growth. Property growth. Economic growth. Profit growth.

During the 1800s and early 1900s the economy went through continuous waves of expansion and contraction. Breathing in and breathing out.

Continuous economic growth is a post–Second World War phenomena. The combination of higher birth rates, improved methods of transportation, better healthcare, treated sewage, and credit delivered one prosperous year after another.

Overseeing all this was the other 20th century invention…the central banker. Decade after decade of economic success bestowed a god-like status on the banker’s banker.

To even raise the notion that we should abolish the RBA, the US Federal Reserve, the Bank of Japan, and the European Central Bank would bring cries of ‘heretic’ from the adoring masses. But why do we need these false prophets to set interest rates? To control the economy. What rubbish. The economy would work just fine without these institutions. Millions and millions of people make decisions each day on the price of groceries, travel, hardware etc. If the price is right we buy; if it is too high we don’t. Surely we can do the same with interest rates? No, you can’t be trusted to make these decisions.

This is important business. Only those who have never left the cloistered world of academia can make these real world decisions. Economic theory from an exalted few is far more trustworthy than the decisions of everyday people who know how far a dollar can stretch.

For all their supposed wisdom, what’s the legacy these economic geniuses have left us? A system so bloated with debt it is on the verge of collapse.

The perpetual growth machine they’ve built is a giant Ponzi scheme. Relying on more and more debt to maintain the appearances of ‘growth’. They do this by lowering interest rates.

Don’t believe me? Here’s an extract from the RBA’s rate announcement last Tuesday:

‘Low interest rates are acting to support borrowing and spending.’

A really strong economy (like a household) is built on reduced debt levels and increased savings. NOT more debt and increased spending.

The central bankers and politicians are trapped in a bind of their own making — they cannot confess that the whole growth thing is a fraud that cannot logically be maintained without going deeper and deeper into debt.

But very few people ever question the continual growth premise.

Why? Because we have been conditioned to think this is normal.

Conditioning plays a huge part in how we see the future. Three decades of inflation leads us to believe the next three decades will also produce inflation.

When in fact we could experience a sustained bout of deflation, similar to Japan’s past two decades.

Conditioning also heavily influences our investment decisions. Whatever the recent market performance has been (good or bad) it is extrapolated into the future. Instead a sustained market trend should be a signal to do the complete opposite.

Renae Richardson said, ‘It is our intellect and ability to reason that sets us apart from animals.’  However when it comes to markets, this observation becomes redundant.

The human race has made enormous progress over the centuries due to our power to think and reason.

Yet in the world of investing our primal instincts are never too far below the surface.

The herd mentality is why the average investor ends up being the average investor.

Successful investors continually question assumptions. They assess the risk more than the reward. They know if you first understand what you could lose, you will have a better appreciation of what you stand to gain.  The herd operates on a ‘buy in haste and repent in leisure’ mentality.

Do not confuse intelligence with investing intellect. There are some very smart people who have done some very dumb things with money. A quick look at who invested with Bernie Madoff (the greatest con-artist of the century) confirms that billionaires and bankers also fell victim to Madoff’s pyramid scheme.

Madoff understood the power of investor conditioning. Year after year his pyramid scheme delivered investors a consistent 10% per annum return.  He trained his investors to expect a certain outcome.

We know there are only a few genuine certainties in life — death, taxes and night following day. All other ‘certainties’ should be subject to robust questioning. And the more certain a certainty, the more it should be questioned. But why don’t people do this when it comes to investing their hard earned money?

Over a century ago Russian physiologist Ivan Pavlov conducted conditional reflex experiments with animals. The result of those experiments gave us the term ‘Pavlov’s dog’. This saying is now synonymous with the actions of people who simply react to a situation rather than apply critical thinking.

Hyman Minsky, the Economics Nobel Laureate, noted ‘stability breeds instability’. This was Minsky’s ironic way of describing complacency. The longer the good times last, the more convinced investors become that things will stay that way. Minsky found there was a direct correlation between the duration of the good times and rising levels of risk taking.

The unquestioned belief in the trend inevitably causes its demise. At the mature stage of the trend it is common to hear phrases such as, ‘This time it is different,’ and, ‘You can’t go wrong buying…’ Complacency breeds contempt.

To further highlight the risks of conditioning and complacency, there is a brilliant turkey analogy in Nassim Taleb’s book, The Black Swan.

Leading up to Thanksgiving (which is only a few weeks away), the unsuspecting turkey is well fed day after day. The turkey is being conditioned to think life is pretty good. The turkey’s confidence and belief system grows with each successive day of feeding. The turkey is certain it will be fed tomorrow. Then one day the turkey meets its true fate.

This graphic, from The Black Swan, is a great example of how you go from feasting to being the feast in one foul chop (pun intended).

It bears a strong resemblance to any number of market graphs doesn’t it?

The Fed’s EZ money, Draghi’s ‘whatever it takes’ and Japan’s ‘abenomics’ have conditioned market participants to believe they will continue to be fed by the central bankers.

Those who believe a handful of academics can permanently manipulate markets are turkeys. Markets, like nature, have a force all of their own, and man is no match for the fury of either. The axe awaits the turkeys that believe otherwise.

If you do not want to be led to slaughter, please read my book The End of Australia. You must start thinking for yourself about the world the central bankers and politicians have created.

When the growth illusion is revealed for what it is, a giant con, it will be too late to take action.


Vern Gowdie,

Editor, Markets and Money

PS: As I’ve mentioned, I wrote The End of Australia on the urging of my colleague Bill Bonner. In effect, it is a localised companion to a book Bill himself wrote last year.

When I met Bill in Paris earlier this year he graciously offered that I make this book available to any Australian who requests it as well.

It’s called Hormegeddon: How Too Much of a Good Thing Leads to Disaster.

If you want to understand EXACTLY what is wrong with the global financial system right now…and what the next big crisis will look like on a global level…you MUST read this book.

Drawing on stories and examples from throughout modern political history — from Napoleon’s invasion of Russia to the impending collapse of the American healthcare system — Hormegeddon sets out to understand one thing:

How good things turn bad.

See, history is not a clean yarn spun by its victors.

It is a long tale of things that went wrong — debacles, disasters, and catastrophes.

Bill Bonner realised that each disaster carries with it a lesson.

For instance…if the architect of a great liner tells you that ‘not even God himself could sink this ship’…you should probably take the next boat.

If the stock market is selling at 20 times earnings and all the expert analysts urge you to ‘get in’ because you ‘can’t lose’…you should probably get out.

Similarly, if a country has gone nearly a quarter of a century without a recession…you should probably expect an equally remarkable counter-reaction.

That is the core theme of Bill Bonner’s Hormegeddon.

It’s a must-read. And it’s yours to download as well…also for free.

Vern Gowdie

Vern Gowdie

Vern Gowdie has been involved in financial planning in Australia since 1986. In 1999, Personal Investor magazine ranked Vern as one of Australia’s Top 50 financial planners. His previous firm, Gowdie Financial Planning, was recognized in 2004, 2005, 2006 & 2007, by Independent Financial Adviser magazine as one of the top five financial planning firms in Australia. He is a feature editor to Markets and Money and is Founder and Chairman of the Gowdie Family Wealth advisory service and editor of the Gowdie Letter To follow Vern's financial world view more closely you can you can subscribe to Markets and Money for free here.

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