The Investment Scientist

This is an article I wrote fourteen years ago almost to the exact day. Here I repost it without changing one word. I do make a few additional comments with red letters.

On July 17th, the S&P 500 reached its peak after breaking a string of records. In a two week time however, both the S&P 500 and the Nasdaq Composite have lost 7.7%. The index that represents smaller stocks suffered a bigger loss of more than 10%. Are you feeling any pain and anxiety? I know I am.

The market is breaking new highs, but it can turn on a dime. Understanding how you will feel in a falling market is very important.

Before I talk about how I deal with the pain and anxiety arising out of the market tumble, I’d like to first talk about Equity Premium Puzzle and Myopic Loss Aversion. These are weighty academic terms, but they would help us understand our psychology and how it could drive us to do stupid things.