Avoid the Herd for Better Returns

TruePoint Capital

Crowd behavior is a powerful force – as powerful a force as anything in nature.

Witness the destruction across the globe and throughout history caused by extreme crowd behavior. There have been social experiments on this very subject.

In a series of well-known experiments conducted during the 1950s, Polish-American psychologist Solomon Asch demonstrated that the desire to conform to a crowd was a powerful force capable of influencing an individual’s behavior against their better judgment.

In one of Asch’s experiments, people were shown a line and then asked to select the line of a matching length from a group of three. Asch also placed ringers in the group who would intentionally select the wrong lines for everyone else to see. The results revealed that when other people picked the wrong line, participants were likely to conform and give the same answers as the rest of the group.

The point of Asch’s experiments? Group or crowd behavior was capable of clouding judgment or, worse, capable of influencing behavior that the subject knew to be wrong.

One of the earliest pioneers of crowd behavior, Charles Mackay, in his book Extraordinary Popular Delusions and the Madness of Crowds published in 1841, made the following observation,

“Men, it has been well said, think in herds; it will be seen that they go mad in herds, while they only recover their senses slowly, and one by one.”

Wall Street is inherently flawed because of liquidity and the susceptibility to crowd behavior as a result of this liquidity.

The ability to buy and sell stock at the tap of a screen lets investors give in to their impulses and let their emotions govern their investment decisions – most of the time, against their better judgment. And this usually happens in droves – not in isolation.

Wall Street moves in waves – ebbing and flowing with the 24-7 news cycle. Most of the time, there is no rational explanation for a particular move in the market other than somebody said something about something in such-and-such a place.

Do you know what the problem with Wall Street is?

Human nature and social experiments have established that emotions will have a stronger pull on market movements than any underlying, rational economic drivers. And when you’re playing in the Wall Street part of the ocean, you’ll rise and fall with its waves.

Look no further than the past 20 years for proof with the dotcom bubble of the early ’00s and the mortgage-backed securities debacle that plunged the country into the Great Recession in 2008.

Wall Street volatility is a product of crowd behavior – collective madness. The problem with emotions dictating investment decisions is that emotions cloud judgment and clouded judgment will ensure that another debacle like the dotcom bubble or mortgage-backed security mess is guaranteed to happen again.

So what’s an individual investor to do?

Well, if your teenage son’s crashed your car every weekend for the past month without fail, what are the chances he’ll crash it again this weekend? I’m guessing pretty high. What’s the solution? Take away his keys. Take away his ability to get in that car and drive away.

That is precisely what ultra-wealthy investors do to avoid the Wall Street circus. They don’t get in the car. They refuse to ride the Wall Street roller coaster. And that’s why they ultra-wealthy have abandoned Wall Street in droves.

And where are they putting their money?

They’re putting their money in alternative investments like private equity and private real estate investment funds. Why? Because sophisticated investors invest with their heads, not their emotions. Speculation is gambling. Gambling is emotional. There’s nothing rational about it.

Sophisticated investors have three investment objectives:

  • Income
  • Appreciation
  • Security (asset-backed)

All three factors are vital to building wealth. A 10% return on $1 M when rolled back into the investment the next year becomes a 10% return on $1.1 M and so on. These investors know that for private investment to be able to deliver these types of returns, herd mentality has to be eliminated.

Private investments like private equity and private real estate investments appeal to sophisticated investors because they put a straight jacket on collective madness in the form of lock-up periods.

Most private investments prohibit redemption of equity interests for at least 5-7 years. This allows management to fully execute their business plan and strategies to deliver the type of returns Wall Street can’t offer. But to do so, they have to take the ability of the crowd to sink the investment before it takes off completely out of the picture.

Despite the volatility of Wall Street and its hypersensitivity to mass delusion and irrational behavior, millions worldwide continue to skew their investment and retirement portfolios heavily with investments highly correlated to Wall Street like stocks, bonds, derivatives, and mutual funds either on their own, through brokers or retirement accounts including 401(k) ‘s and IRA’s.

In an instant, the value of these investments can be wiped out for no rational reason that can only be explained by collective madness.

Why be a part of the collective Wall Street madness?

Discover what ultra-wealthy investors have known for decades. There’s a better way to invest – one that is not susceptible to bandwagon mentality. One that takes emotions entirely out of investing.

One alternative they’re flocking to is an investment in a private commercial real estate fund.

They’re particularly drawn to the multi-family segment that is currently experiencing overdemand and undersupply – a segment that offers consistently high risk-adjusted returns and appreciation – all backed by a tangible asset.

Nobody likes dealing with manic individuals, so why participate in a manic Wall Street market?