Lemming Behaviour in Investing

The stock market has a saying: Wealthy people get more experience as they gain more capital; experienced people get more wealth as they gain experience. That sounds a lot like the old chicken-or-the-egg conundrum. What about those of us with neither wealth nor experience? How can we enjoy the same kind of gains? The difference between ordinary investors and successful ones may lie in how the successful ones invest.

Successful investors perceive risk differently

Lemmings are small rodents with a bad reputation. Faked footage in a 1958 nature documentary led people to believe, for decades afterward, that these tiny creatures would blindly follow their migrating herds anywhere – even straight off a cliff. That’s not true for lemmings, but unfortunately, it can be true for investors.

Normal people believe that when the stock market goes up and investment sentiment improves, risk declines. In response, they buy more stocks. If stock market goes down, people panic, assume that their risks are rising, and sell all their holdings. Plenty of so-called investment professionals make the exact same mistake. Their short-term focus leads them directly off the proverbial cliff.

But experienced investors know that when investor sentiment sours and stocks fall, their risk is actually decreasing. Rather than focusing on the market’s direction and panic-selling their stocks, they patiently observe how their favorite companies’ stock valuations compare to their true worth. Experienced investors focus on the long term, refusing to “anchor” to a specific price when making buying decisions.

As Warren Buffett suggested: You can trade equities, but when it comes to evaluating investments, what I see are the business results, not the market price that are fluctuating every second.

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