Climateer Investing: New York Fed On "Anxiety, Overconfidence, and Excessive Risk Taking" (pathological gambling and self-manipulation with booze and blow)

Friday, February 20, 2015

New York Fed On "Anxiety, Overconfidence, and Excessive Risk Taking" (pathological gambling and self-manipulation with booze and blow)

We've looked at the neuro-bio-chemistry and psychology a few times, some links after the jump.
From ZeroHedge:

When a member of the New York Fed staff releases a paper on the topic of Anxiety, Overconfidence, and Excessive Risk Taking, and in which there is a section on "Self-Manipulation with Alcohol and Drugs", which explains that "pathological gambling is more common among people with alcohol use disorders," adds that "there is evidence that drugs are used strategically to induce performance changes, and particularly so for individuals with greater degrees of horizon-dependent risk aversion", observes that 'Anecdotal evidence on the “widespread use of [...] cocaine by professional traders” is consistent both with strategic self-manipulation and with our observations about cross-sectional overconfidence across environments", and finally recommends to all the risk-averse BTFDers and BTFATHers, that "the performance of anxiety-prone individuals should then improve with moderate levels of drug-induced overconfidence" one should probably listen and trade - since the Fed's only remaining wealth effect and "monetary transmission channel" is to BTFATH - while both drunk and high.

From the NY Fed white paper:

Self-Manipulation with Alcohol and Drugs

A second interpretation of how the belief manipulation of our model may be implemented in practice is through the use of alcohol and other drugs. This section gives a brief review of psychological evidence on the effect of alcohol and other drugs on (i) risky behavior, (ii) forgetting and confidence, and (iii) performance changes. In addition, we discuss evidence on the strategic use of alcohol and other drugs by anxiety-prone individuals to induce effects (i)–(iii).

The finding that alcohol is associated with more risky behavior is robust across domains. In the field, alcohol consumption has been shown to lead to risky sexual behavior (Halpern-Felsher et al., 1996; Cooper, 2002), accident-related injuries (Cherpitel et al., 1995), and dangerous driving patterns (Donovan et al., 1983). Pathological gambling is more common among people with alcohol use disorders, and vice versa (Grant et al., 2002; Petry et al., 2005). In the lab, Lane et al. (2004) establish causality from alcohol consumption to risky behavior.

Riskier behavior can be driven either by reductions in risk aversion, or by a decreased perception of risk. Cohen et al. (1958) show that the more risky driving behavior caused by alcohol consumption is associated with a higher degree of overconfidence. Supporting the channel suggested by our model, alcohol has also been shown to lead to forgetting, especially of negative signals (Nelson et al., 1986; Maylor and Rabbitt, 1987)....MORE

Although Lilly introduced Prozac to the U.S. in 1988, they didn't really begin marketing it until 1991. Sales increased five-fold by 1994, the year the big bull market of the nineties kicked in.
The joke on trading desks was that this was the Prozac market, sort of the "What me worry?" approach to equities (which may explain the Nasdaq at 5048 in March, 2000).*
This excursion down SSRI lane was triggered by the thought "If we run out of lithium, what will the bi-polars do?".

*Cramer had similar thoughts, relayed in this NYT article from 2002:

...''My own view is that one reason the investor class, including me, missed the downside was serotonin,'' James J. Cramer, a former hedge fund manager and author of ''Confessions of a Street Addict'' (Simon & Schuster, 2002), said, referring to a substance in the brain that antidepression drugs augment. ''Prozac and all those other drugs banish the 'this is the end of the world' thoughts,'' Mr. Cramer explained. ''Which means you are not as anxious as you should be about an obvious down side.''...

Your Brain and Financial Bubbles
The Internet, Deflation and Depression

...Further, the newspapers likened the changes to those seen in cocaine abusers but went on to describe something quite different from my understanding of what blow does to the reward pathways, overexciting the dopamine cascade until the various D receptors no longer react to dopamine and eventually leading to anhedonia. The big A is often concurrent with and like anxiety, may even kindle for depression.
Don't worry, be happy.