How to Get a Grip on Mass Psychology in the Financial Markets of the World 

“Over and over and over again,” investors have historically followed the same psychological path. 

In the financial markets, where investment frenzies can build up and then erase billions of dollars from investors’ portfolios, as was the case during the internet stock bubble of the 1990s and the real estate bubble of the mid-2000s, mass psychology is always at work to some extent. 

It was Charles H. Dow, the inventor of the Dow Jones Industrial Average, who expressed the primary reason why so many financial market participants lose money more than a century ago: 

People have a natural tendency to believe that the current state of affairs will continue indefinitely. 

In the financial markets, the only thing that is “permanent” is change. 

A method that will assist you in anticipating change will be essential in navigating the financial markets. In other words, a method that will assist you in recognizing when a trend (whether upward or downward) will reverse. 

To put it another way, technical analysis provides an objective framework for analyzing market trends. 

In his book, Prechter’s Perspective, Elliott Wave International President Robert Prechter stated the following: 

Human beings go through several stages when they become a part of an investment crowd, as described by the Wave Principle. It doesn’t matter what news or extraneous events happen; the path they take in moving from extreme pessimism to extreme optimism and back again is essentially the same over and over. 

The fundamental Elliott wave pattern is made up of impulsive waves (which are denoted by numbers) and corrective waves (which are denoted by letters and symbols) (denoted by letters). An impulsive wave is made up of five subwaves that move in the same direction as the trend of the next larger size wave. Corrective waves are composed of three subwaves that move in the opposite direction of the trend of the next larger size wave. 

This basic pattern connects to form five- and three-wave structures of increasing size, as illustrated in the illustration below. 

During a bear market, the five waves of the main trend would be down, while the three waves of the corrective trend would be upward. 

Despite the fact that the Elliott wave method does not provide certainty, it does provide a method of predicting the market’s future path that can be relied upon with reasonable confidence. 

This holds true for any financial market with a large volume of trading anywhere on the planet. Aspects of investor psychology are consistent across countries and industries. 

Many global investors find themselves on the WRONG SIDE OF IMPORTANT MARKET CONVERGENCES. 

The following are the reasons for this conclusion: Every time a major bottom occurs, the news is negative, and every time a major top occurs, the news is positive. 

Because of this, many investors believe that bad news will lead to even lower prices, while good news will lead to even higher prices in the future. 

However, news is a reflection of the past, not a predictor of future price movements. 

By Terry Grennon

Asset Allocation Strategist