Adaptive Markets: Financial Evolution at the Speed of Thought

behavioral economists agree that sustained emotional stress impairs our ability to make rational decisions.

An “efficient” market is defined as a market where there are large numbers of rational, profit-maximizers actively competing, with each trying to predict future market values of individual securities, and where important current information is almost freely available to all participants.… In an efficient market, on the average, competition will cause the full effects of new information on intrinsic values to be reflected “instantaneously” in actual price

Samuelson reasoned as follows. If investors were able to incorporate all the potential impact of future events on an asset’s price today, then future price changes could not be predicted based on any of today’s information.

rumors often have just as much impact as hard information

Imagine how much harder physics would be if electrons had feelings.

The difference between the irrational investor and the shark on the beach is the shorter length of time the investor has had to adapt to the financial environment, and the much faster speed with which that environment is changing.

Financial markets are a product of human evolution, and follow biological laws instead

we need to piece together insights from multiple disciplines to get the full panoramic picture of how financial markets work and why they fail.

sustained emotional stress impairs our ability to make rational decisions

Fear leads us to double down on our mistakes rather than cutting our losses, to sell at the bottom and buy back at the top, and to fall into many other well-known traps that have confounded most small investors—and not a few financial professionals. Our fear makes us vulnerable in the marketplace.