A bearish bubble is developing | stockbee

10/03/2008

A bearish bubble is developing

Alcoa is first large company traditionally to announce its earnings. Its earnings will be out on 7 th October. That will be the official start to the earnings season. Once the earning season starts the market will be focused on it.
In spite of the overall bearishness there will be companies which will do exceedingly well and market would still focus on them. Also investors would be keen on hearing about future earnings expectations of management. Typically market looks 2-3 quarters ahead and as a result the bad things are already priced in at this level.
One of the temptation currently for most investor is to start believing in all the bearish propaganda. I will take a bet that 80% of the worst thing being predicted by the bears will not come true. You can go back and see history, you will always see that during panics and crisis , mass media and few pundits compete to create scary scenarios. Most of them never come true.
By becoming excessively pessimistic you will have cognitive dissonance when market starts rallying. The biggest problem to watch for in analyst or in investors is what psychologist call Cognitive Dissonance. Cognitive Dissonance is a phenomenon in which an individual or a group of individual with an established opinion refuse to accept another point of view, in spite of new irrefutable evidence suggesting quiet another conclusion.
Cognitive dissonance, refers to our desire to avoid believing two conflicting things. Whereby the brain attempts to find support for the belief that carries the greater attachment or emotional involvement by finding a way to ignore or discount the conflicting belief.

In the classic study of this characteristic, researchers found that once a person had purchased a particular automobile, they would avoid advertisements for competing models and seek out those for the model purchased, so as to avoid the pain of regret that was bound to follow if they were to realize they had made the wrong decision. One way to avoid regretting the purchase decision is to (irrationally) filter the information received (or believed) after the decision has been made. Similarly, people tend to minimize the importance of subsequent information that might call their original decision into question.

The upshot is that we resort to various subconscious mechanisms to defend our existing beliefs, even where the desire to maintain these beliefs has a less-than-rational basis.

Knowing this, how do investors adjust their behaviour to compensate for the tendency to avoid or deny new, conflicting information? The answer is to seek out contrary opinions; to realize that research doesn't stop once a decision is made; to strive to identify mistakes as early as possible and take pride in the ability to do so.
Historically periods of panics and bearishness have been brief. Government, regulators, entrepreneurs, investors, consumers all react to panic and make several adjustment to their behavior and choices. That does not get reflected in most current extreme bearish scenario.


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