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Prosperity by Overcoming
Irrational Behaviors
Wayne B. Sanders
Excelsior College, New York
Professor Sharp
Try this experiment

1) Say the word “silk” five times as quickly as possible. Silk. Silk.
Silk. Silk. Silk.

(2) What does a cow drink?

Water. A cow drinks water.

“Chances are you thought that the answer was milk. Cows drink
water. It’s an understandable error. After saying ilk so often in
silk, you have primed your brain to think of other words that
sound like it. So when you hear cow and drink, it is not a leap to
the word milk. You were already “anchored” on ilk words.”
Austin(2013)

This an example of “Anchoring” which is one of the biases
identified in Neuroecomonics that sabotages our investment
returns.
The DALBAR Study
The study shows us that over 20
years the S&P 500 gained on
average 9.1% while based on
behavior the average investor
earned only 3.8%
Translated in real dollars if you
started out investing with $100 and
added another $100 monthly for the
next 40 years…
At 3.8% after 40 years you would have…
$112,916.90
At 9.1% after 40 years you would have…
$486,029.64
By taking our emotions out of our
investment decisions…
Understanding how our brains work
can make the “Big Difference”
Looking at the Brain
 Research done using a functional magnetic resonance
imaging (fMRI ) machine on twelve Stanford
University students from the team of Brian Knutson,
Kiefer Katovich, and Gaurav Suri focused on
anticipated monetary incentives.
 The student would press a button based on certain
cues that could cause a gain or a loss of amounts of
$0.00, $1.00 and $5.00 based on their responses.
Findings on the Brain

The research allowed the team to distinguish between emotions along two
affective dimensions called valence (positive, negative) versus arousal (intensity).

The study also included the region of the brain called the nucleus accumbens or
NAcc which has a major role in the cognitive processing of motivation, pleasure,
and reward and reinforcement learning, and notably an addiction.

"Replicating patterns of brain activity previously observed...anticipation of large
gains increased NAcc activity...whereas anticipation of both large gains and large
losses increased anterior insula activity...For affective ratings, anticipation of large
and medium gains increased positive arousal...whereas anticipation of large and
medium losses increased negative arousal" (Knutson, Katovich,& Suri, 2014)
Fear and Greed our two biggest financial
emotions
Really?
The volatility index or VIX is an indicator of fear maintained by the Chicago Board
Options Exchange. It measures the fear of the S&P 500 by looking and factoring in the
price of options for the next 30 days. With a higher number, there is a less chance of
the market going up.
Fear, Greed and the VIX

A VIX index was modeled on an open-end equity fund in the Taiwan market.
This fund was studied to see the influence of fear and greed on the price of the
fund. Data was collected from December 2006 to March 2011.

The researchers Chun An Li and Jia Chi Wang were able to show that
psychological changes to the investor were correlated to fund performance and
that translated to back to the price of the fund.

Li and Wang concluded “The greed of investors always lead them to high spirits and
made them feel bullish for the future market and results in an increase in stock prices.
Meanwhile, fear always means that investors were in a gloomy mood and causes them to
feel bearish, resulting in a decrease in stock prices.”
How do we achieve greater returns on
investment?

As you can see over time we are not investing but we are really
speculating and getting below average returns with irrational behaviors.
 What can we do to stop this speculation and improve our returns?
 We stop “actively” trading and employ “passive” investing.
What is Passive investing and why is it
better than Active?

Passively
managedmanaged
equity funds
are vs.
created
to are:
track a certain market index,
Advantages
of passively
funds
active
which is a marked difference compared to actively managed equity funds.
 Cheaper to operate which gives you a much lower expense producing higher
returns

For example, you may have an index that buys all the stocks from the S&P 500
 Moreand
taxdoes
efficient
as they incur less expenses by not trading in and out of
not change much from that model. Actively managed funds are
stocks
created by a fund manager who gets paid to buy and sell different stocks at
 Overdifferent
time passive’s
return
beats
activefor
returns
as active
returns
times to“average”
try to make
the most
money
a mutual
fund portfolio.
perform below “average”
Example of a simple passive fund
portfolio

You should have a broad globally diversified portfolio

Included are three funds listed here as an example portfolio:

Growth Stock Fund

Value Stock Fund

Foreign Stock Fund
Growth Stock Fund 40%
Value Stock Fund 40%
Foreign Stock Fund 20%
Exchange Traded Funds know as ETF can be bought by companies like
Vanguard, Fidelity etc… For example for Value Stock Fund you could buy
something like Vanguard Russell 2000 Value Index ticker VTWV
*Remember to rebalance the percentages at least yearly to keep allocations the same.
By employing “passive” investing techniques you
will avoid the mistakes of irrational thinking and
be on a faster track to prosperity
GOOD LUCK!!!
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
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