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The Crowd: People Are Predictable

Michael Covel (March 29, 2005)

One of Ed Seykota's mentors early on was Jay Forrester:

There is a reluctance to accept the idea that physical systems, natural systems, and human systems are fundamentally of the same kind, and that they differ primarily in their degree of complexity. To admit the existence of a social system is to admit that the relationships between its parts have a strong influence over individual human behavior. The idea of a social system implies sources of behavior beyond that of the individual people within the system. Something about the structure of a system determines what happens beyond just the sum of individual objectives and actions. In other words, the concept of a system implies that people are not entirely free agents but are substantially responsive to their surroundings. To put the matter even more bluntly, if human systems are indeed systems, it implies that people are at least partly cogs in a social and economic machine, that people play their roles within the totality of the whole system, and that they respond in a significantly predictable way to forces brought to bear on them by other parts of the system. Even though this is contrary to our cherished illusion that people freely make their individual decisions, I suggest that the constraints implied by the existence of systems are true in real life.
Jay W. Forrester
Sloan School of Management
Massachusetts Institute of Technology

Forrester is dead on. You must be concerned at all times whether or not you are truly acting independently. We suggest you accept the fact that, even though you may think you are making independent decisions about how to trade profitably, you are probably not. You are probably part of the herd mentality you are seeking to avoid -- unless you have a system.

Think about it this way: If your performance in the stock market over the last several years was even remotely close to simply the Dow or Nasdaq index return, how independent have you been? If you make money along with the crowd and lose money along with the crowd, are you acting independent?

The Crowd

When popular opinion is nearly unanimous, contrary thinking tends to be most profitable. The reason is that once the crowd takes a position, it creates a short-term, self-fulfilling prophecy. But when a change occurs, everyone seems to change his mind at once.
Gustave Le Bon
The Crowd: A Study of the Popular Mind

Le Bon expresses the essential element of great Trend Following: the understanding of crowd psychology. If you are able to step outside the crowd and think objectively for yourself, you are one step closer to trading successfully. The herd mentality illustrates why Trend Following will always work today and into the future.

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