Be Cautious When You're Around Crowds

February 12, 2010

You don't need to be involved in the markets very long before you become aware that there are some opportunities for trading and investing that are wildly popular.

It may be a certain stock that's making headlines, thanks to a big product introduction or an unusually strong earning report. Or maybe there are rumors brewing about the possibility of a merger between two big firms. Or it could be a particular industry or an entire market sector that's getting extra attention-biotechs, mining stocks, REITs, or semiconductors.

Whatever it is, you can soon see a crowd gathering, eager to put their money into the Next Big Thing. The popular attention rapidly moves past the fine print on the financial pages and into the headlines, and pretty soon you can't tune in a talk show or eavesdrop on a water cooler conversation without hearing the latest market fad being mentioned.

Whenever that happens, it's a clear warning sign.

Few things are more dangerous than getting sucked into a crowd mentality, so it's something to practice avoiding as early as possible in your trading career. Whenever you catch wind of the Next Big Thing, at least take a moment to imagine what its opposite would look like, and how you would behave if you were doing something different.

When you're involved in astro-trading, of course, it's easy to feel like you're automatically doing something different just because you're applying astrological principles to market dynamics. But astro-trading by itself doesn't completely eliminate the need for being cautious about following the herd.

Not following the crowd is not a matter of trying to be right or of making the popular opinion wrong. It's really all about thinking for yourself, and doing the work that actually needs to be done for success in the markets.

Warren Buffett understood this principle when he said that "You are neither right nor wrong because the crowd disagrees with you. You are right because your data and reasoning are right."

At its most basic level, avoiding the crowd mentality is about learning that when markets go up and the media are crowing about the bonanza on Wall Street, it's time for you to sell. Likewise, when stock prices tank, it's time to go shopping for bargains.

The two emotions that drive market behavior are fear and greed. And, as Warren Buffett also said, you should "Be fearful when others are greedy and greedy only when others are fearful."

So watch closely where the crowd is heading. Then turn around and run, don't walk, in the opposite direction.

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