Confidence leads to trades. If you think you are endowed with a superhuman ability to forecast stock prices, you will most likely want to monetize your talent through picking stocks, timing the market or using charts to divine where stock prices are heading. While some investors do seem to have this gift, research conclusively shows that the vast majority of us sadly do not. So why do so many ordinary folks persist in thinking that they can pick stocks or predict stock market patterns?
As I briefly explained in my previous blogs, it is human nature to want to predict partly because we hate ambiguities and crave for certainty. The urge to sieve out patterns probably has to do with the size of our brains. The fact that we have the largest cerebral cortex among all mammals keeps our ‘smart’ brains busy looking for systematic patterns to exploit. Used in the right context, pattern-seeking can be advantageous to survival. Unfortunately, we often carry this ambition too far, fooling us into seeing repeatable patterns when none exists. We fall into this trap when we try to predict abstract quantities like the prices of financial assets like stocks, currencies and commodities.
Here is an amusing story of pattern seeking that, at first sight, has no connection to finance.
The story began in 1976 when the Viking 1 mission returned photos of the Martian surface. The image of a rocky face in the Cydonia region captured the public eye.
When NASA released the photograph almost a week later, they described it as a “huge rock formation in the center [of the photo], which resembled a human head.” Was it a trick of light and shadows, or a remnant of an ancient civilization?
Although NASA scientists quickly determined that the face was created by tricks of light and shadows, the public did not buy that idea. Instead, people seized on the more imaginative story that what they saw is the remnant of an alien civilization, suggesting that other rocky outcroppings in the area may be a crumbling extraterrestrial city.
Since 1976, the ‘face’ has appeared in a number of popular culture references, citing it as an indication of life on Mars at some stage of the planet’s history. Books, movies and television all took part in speculation.
The public’s speculation wasn’t settled until 22 years when higher resolution images were taken by the Mars Reconnaissance Orbiter and the European Space Agency’s Mars Express. Those images revealed that the original analysis of the Martian ‘face’ was correct: what the pubic wanted to believe was just an optical illusion caused by light hitting the surface and wells of the rocks at specific angles.
Here are images of the ‘face’ as disappearing over time as revealed by higher resolution images.
You may laugh at this story and the gullibility of those who insisted that the face of Mars belonged to a giant human or alien. But when we insist that past stock prices reveal trends for the future, aren’t we just as gullible? Some lessons in life are hard to learn.