Humans are incredible storytellers. We’ve convinced ourselves of all kinds of things that biologically don’t exist, like state borders and even money. States aren’t like mountains or rivers that we can see and touch. They’re just stories that we all agree are true, which is why it works. Money is really just a worthless piece of green paper. But we all agree that a $10 bill gets you 1000 sheets of paper to print your charts out on. While it helps society function, these things we’re referring to are just stories. They are really nice stories, but they’re just stories. They exist only in our minds rather than biologically.

The reason homo-sapiens have conquered the world is because of our ability to believe stories. If there were 7.5 Billion chimpanzees in the world today instead of 7.5 Billion humans, it would be complete chaos. Other animals don’t have the ability to use their imagination to deal with many others of the same species. That’s why other strong and smart animals are locked up in cages at zoos and laboratories, while humans rule the world.

This natural ability of ours to believe stories, however, doesn’t help us when it comes to analyzing the market. It’s actually a huge problem. We want to believe these stories so badly, because we’re so good at believing stories, that we choose to ignore the only reality of the matter: price. Just think about all the people you see and know who approach the market in any way, through 401ks, IRAs, professionally as a Portfolio Manager or Advisor. Are they telling and believing stories, despite what price is doing? Or are they believing the only reality, price, despite all the stories? I’d argue it’s really really heavily skewed towards the former, telling and believing the stories.

It’s a problem that we all have to deal with as humans. I think Annie Duke said it perfectly in a recent interview we did, “there is no cure”. But I believe that at least being aware of these flaws is a tremendous advantage. Even small incremental improvements can really compound over time. You don’t have to be that much better than the rest to have an edge.

For me, it’s really quite obvious. Nothing I’m telling you here is anything I made up or came up with on my own. This has been an important conversation for a while now and Phil and I like to talk about this stuff on the podcast as often as we can as well.

In our world of market participation, there is the reality and then there are the stories to try to explain the reality. This is not my opinion. These are just facts. The only thing that will never be restated is price. It is fact when shares change hands at a specific price, at a specific time, even to the exact decimal place. It is only then that the storytellers get to work to explain to a human audience, fiending for their next narrative, why these shares are changing hands where they are.

There is no sound, logical reason why any of us would ever expect someone to know “why” these specific shares were changing hands at that specific price and at that specific time. It’s mathematically impossible to get into the minds of all those people trading these securities, or even the minds of the humans who build the robots to trade them. And it certainly can’t be done in a fast enough time to be able to report these reasons. It’s just not possible. So they have to tell stories. And we as humans want to believe them so badly that we just can’t help ourselves.

Or can we? [Read more…]