Investing Psychology

This posting will not give an update on the Tiger Woods situation. Instead it covers a key element in investing, psychology of the stock market.

The economic business cycle has 2 aspects, financial statistics and psychology. While financial statistics get the most attention, psychology is also important because the adage of perception is reality is very real. Psychology does influence financial statistics.

At the bottom of an economic business cycle; businesses, consumers, and investors have a mindset that borders on depression. During the business cycle the psychology shifts from depression to normal to euphoria. Because of psychology, financial statistics tend to exceed expectation during the beginning part of the business cycle and tend to miss expectations at the end. It can be viewed as a pendulum swinging back and forth. Success tends to lead to more success while failure tends to lead to more failure.

Since Thanksgiving, we have seen better than expected statistics such as for employment, consumer confidence, and retail sales. In particular, retail sales during the Christmas season has increased 1.6% much better than the 0.6% that was anticipated. Why is an understanding of psychology important? Because it provides opportunity for an investor. Upcoming financial statistics should continue to exceed expectation as business and consumer confidence continues to improve.

Bottom Line: Because of psychology, when sentiment is depressing at the bottom of an economic business cycle it provides a wonderful buying opportunity and when the mood is euphoria it provides a wonderful selling opportunity for stocks.