Given the recent spat of volatility we thought it made sense to revisit one of the more common behavioral biases, herding. Herding takes place when a group’s actions carry more weight than an individual’s actions, thus causing the individual to follow the group.
A few examples that help highlight the herding bias are:
- Everybody buying a specific stock
- The momentum trade in 2017 (FAANG - Facebook, Amazon, Apple, Netflix and Google)
- Coinbase, being the No.1 app in the Apple app store at one point in time
- Recent sell-off in the NASDAQ
The problem with herding is that it can be a distraction and cause a deviation in terms of a financial plan. The issues that herding poses are a potential shift in the asset allocation, increased correlations among certain securities and the potential for overexposure to one specific security, asset class or sector. We saw this in the past several weeks as the NASDAQ sold off quite feverishly due to the overcrowded trade of owning the FAANG (Facebook, Amazon, Apple, Netflix and Google) names.
Just because the talking heads are talking about a certain investment or security it doesn’t make it appropriate for everyone. Remember to do your homework and stick to your goals and plans, which will help reduce the tendency to follow the herd.
