The Dark Side of an Investor's Brain

About 15 years ago there was much rumor about the ability of monkeys in picking stocks. Their random choices were quite good and outperformed professional fund managers. Monkeys were the grandparents of today octopuses forecasting soccer results but, by the way, hopefully they at least confirmed to the general public the impossibility to beat the market.
dark brainContemporary behavioral finance sometimes seems to forget the lessons of our evolutionary predecessors. And the lesson wasn't that monkeys are smarter but that humans behave differently, and for several good reasons. Although several people today are still surprised by the discovery that the human brain is not a supercomputer, on the dark side of an investor's brain there is a misunderstanding very common in social sciences: if you take a normative model (e.g. the standard portfolio optimization) as if a behavioral one, then the empirical results that can be observed in reality will always be outperformed by the model (and that is because the model is damn good from a normative perspective). It's just logic.

Although even the fathers of normative models are still interested in behaviorally plausible models (e.g. Das, Markowitz, Scheid & Statman 2010) there is still so much confusion in evaluating investors' performance that perhaps we should just avoid to consider that concept and stick to the empirical evidence and to its reasons.

Thus, for instance, if we study how aging can influence investors' behavior we should, firstly, be sure to understand the behavioral differences between young investors and older ones and the interaction between declining cognitive capabilities and other increasing variables (e.g., education, experience, wealth, etc.. - see Carpenter & Yoon 2012; Christelis, Jappelli & Padula 2010, Korniotis & Kumar 2011, Mohr & Heekeren 2012). But still there is much space for a misunderstanding: risk aversion is not a variable that can be manipulated, it depends on personal needs (and, partially, on genetics - see Barnea, Cronqvist & Siegel 2010) for which there can't be a normative model and thus investigations should be made for the same level of risk propensity. In that case it remains largely unclear whether experience counterbalances declined cognitive capabilities. On the contrary, if we think that investing is not part of human and social life but a match against a portfolio optimization algorithm played in an artificial environment, then ... well, the elderly should completely rely on mon(k)ey managers.


A. Barnea, H. Cronqvist, and S. Siegel (2010), "Nature or nurture: What determines investor behavior?", Journal of Financial Economics, 98(3), pp. 583–604.

S. M. Carpenter  and C. Yoon (2011), "Aging and consumer decision making", Annals of the New York Academy of Sciences, 1235: E1–E12.

D. Christelis, T. Jappelli, M. Padula (2010) "Cognitive abilities and portfolio choice", European Economic Review, 54(1), pp 18–38.

S. Das, H. Markowitz, J. Scheid and M. Statman (2010). "Portfolio Optimization with Mental Accounts", Journal of Financial and Quantitative Analysis, 45 , pp 311-334.

G. M. Korniotis and A. Kumar (2011), "Do Older Investors Make Better Investment Decisions?", The Review of Economics and Statistics, 93(1), pp 244-265.

P. N. C. Mohr and H. R. Heekeren (2012), "The Aging Investor: Insights from Neuroeconomics", SFB 649 Discussion Paper 2012-038

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