There has been an incredible influx of inexperienced investors into the financial markets. While the emergence of commission-free trading has provided a relatively low barrier-to-entry for the financial markets, it also means that many newer investors will be quite unprepared for the risks and challenges inherent in equities and options trading.
The surge in stocks like GameStop is very similar to previous market bubble periods, from the tulip frenzy in the 1600’s to the technology bubble in the late 1990’s, drawing in droves of new investors to the marketplace. Inexperienced investors tend to be less equipped to manage the emotional side of investing, or the fear and greed that often drive asset prices.
Learning the investment game
As market prices increase early in the bubble phase, new investors are driven less by the fundamental data and more by the market euphoria itself. Rising prices provide a feedback loop, and more and more investors are drawn in at the prospect of limitless upside. At some point, early buyers begin to take profits, which causes prices to come back down. Once investors realize that prices do not go up forever, panic selling ensues as market participants rush to lock in their gains or cover their losses.
Issues like overconfidence and herding, where traders pile into very similar trades because those around them are already doing so, tend to be magnified when new investors enter the markets. Experienced traders think in terms of reward (what do I stand to gain?) versus risk (what do I stand to lose?) whereas inexperienced traders tend to think much more about the potential reward instead of appropriately recognizing the risks.
Learning beyond traditional education
Unfortunately, our education system in the United States does a fairly poor job of preparing individuals to make sound investment decisions. That’s compounded by the fact that human beings are simply hard-wired to make poor decisions with their money! The rise of social media, while providing opportunities for individuals to exchange ideas and compare strategies, also serves as an echo chamber for bad habits and uninformed perspectives.
I would expect a growing interest in educational content as new investors start to learn painful lessons of their own and discover the need for risk management. Retail investors don’t just need access to the financial markets, they also deserve access to the information, mentoring and context to better understand the markets they are trading. It’s not just about being able to execute a trade, it should also be about making more informed investment decisions.
Final thoughts
Individual investors should have access to the tools they need to understand market dynamics and better manage risks in their portfolios. They should also supplement those tools with educational resources to learn the lessons of market history and reinforce timeless analytical techniques and strategies. Finally, they should have the opportunity to learn from those that have come before them, following experts as they analyze the markets and reinforce good habits for investors.
In recognition of growing demand for investor education, we recently released StockCharts TV On Demand which gives viewers an opportunity to see how seasoned professionals are applying the tools of the trade during live market sessions. We feel this provides opportunity to educate and empower our viewers to make better decisions and take the emotions out of investment decisions.
