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Blodget and behavioral finance

Henry Blodget, the former Merrill Lynch internet guru, now pens a column at Slate. His latest piece promotes the currently fashionable field of behavioral finance.

Blodget takes the obligatory shot at efficient markets theory - finance has "progressed beyond" the paradigm "which mistook people for robots." And where has the new field taken us? Blodget describes half a dozen cognitive errors which can influence investment decisions, and the results of some laboratory experiments which show that people are capable of doing really strange things. Ergo, investors are suckers, and the stock market is inefficient.

I find this part of Blodget's conclusion amusing:

People's natural tendency (here we go again...) is to view the conclusions of behavioral finance theorists as yet another indication of how dumb everyone else is rather than how handicapped we all are as we try to outwit the market and each other. But the biggest lie of the 1990s - the biggest lie of every bull market - is that investing is so easy that anyone can do it, that all you have to do to win is play. The reality, of course, is that only a tiny handful of people are dedicated and talented enough to overcome their DNA, confront the long odds, and come out ahead of the market averages, and they are as rare as world-class athletes.

Funny, I thought that efficient markets theory implied much the same thing!

This is part of a pattern. I recommend Belsky and Gilovich's book, Why Smart People Make Big Money Mistakes And How To Correct Them for an introduction to behavioral finance. But in the end, after discussing the mistakes we make when it comes to investing, Belsky and Gilovich's "corrections" are the same as the recommendations from Burton Malkiel! (in his classic, A Random Walk Down Wall Street). Don't time the market, minimize transactions costs, use index funds, and so on. The more things change, the more they stay the same.

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