Financial Voyage: How the Best Investors Predict Behavior


“Yet all the suns that light the corridors of the universe shine dim before the blazing of a single thought proclaiming in incandescent glory the myriad mind of man.”

— Harry Kleiner, Fantastic Voyage

For centuries, man has believed that the greatest mysteries in nature are distant: hidden in spiral galaxies accelerating across the universe, or in dark matter, or on planets far beyond our reach. But in reality, nature’s best-kept secrets have been locked away within ourselves, in the human mind.

Exploring the mind has been a field left to psychologists, scientists, philosophers, and theologians. Yet in the world of investing, the mysteries of thought and behavior also play key roles, compelling decisions and moving markets.

Using advanced MRI technology, neuroscientists are exploring on a molecular level how people make decisions — and why those decisions are sometimes puzzling. Two studies suggest that decisions centered on risk and reward begin in identifiable areas of the brain.

In the first study, a research team at the California Institute of Technology examined the reactions of two patients who had been born with damage to a structure of the brain known as the amygdala. Presented with opportunities to bet money or keep the cash, the two invariably chose to bet. This was true with even the riskiest bets presented. Participants in a control group were much more cautious.

The two patients cannot feel fear, and in fact, cannot even recognize the emotion of fear in facial expressions. This eliminated fundamental barriers to unwise financial decisions. When functioning normally, the brain’s fear center apparently makes individuals afraid to lose money.

“Loss aversion has been observed in many economic studies, from monkeys trading tokens for food to people on high-stakes game shows, but this is the first clear evidence of a special brain structure that is responsible for fear of such losses,” said Colin Camerer, a member of the research team.

At the other end of the spectrum, Japanese researchers found that greed is influenced by the striatum, which their study described as a “major reward-related brain structure.” Winning a financial reward increased activity in this area, but so did the simple possibility of monetary gain. The higher the risk, the greater the amount of activity in the striatum.

Does this mean that emotion has no place in prudent investment decision-making? An earlier study suggests emotion is a component of rational decisions, too.

Researchers at Stanford University found that the same “excitement” and “fear” centers of the brain which lit up on MRIs just before test subjects made irrational decisions, also showed activity when prudent decisions were being made. The difference was in the intensity of the brain activity.

The most successful investors have learned this. Whether they’ve studied the science, or know it intuitively, they understand that fear and greed in the markets are as normal as pain and pleasure in the brain.

Anson Funds Chief Investment Officer Moez Kassam, for example, attributes a great deal of Anson Funds’ success to its ability to analyze fads, social trends, and emotion-based variables to place winning bets in financial markets.

The co-founder of Toronto-based Anson Funds told Barron’s: “When everyone is excited about something, we usually look at the other side.”

Interviewed by Forbes
, he further explained: “We’ve adopted our strategy not to just look at fundamentals but also sentiment on Stocktwits, Twitter and other platforms. These guys tell you what they think, they coordinate with each other, and they have scale. You have to pay attention. … You need sophisticated methodologies to translate this information into a hypothesis about the direction of a stock price, and that’s what we [at Anson Funds] do.”

In many ways, the realization that financial decisions are often irrational is liberating. For top-tier investors, it presents an exhilarating challenge. No computer can accurately forecast what an individual investor will do, at least not yet. It’s still a mystery that can only be solved by the application of the glorious, arcane power of the mind itself.




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