But world markets are bound to revive, and when they do investors will once again become giddy with overoptimism. Now a Dutch economist purports to have quantified this very human tendency to play up potential rewards and play down actual risks.
The University of Amsterdam’s Roel Beetsma, 34, studied Lingo, a Dutch TV game show on which contestants can make double-or-nothing bets. He found that players would wager their winnings only when they thought their chances of guessing a particular five-letter word were two out of three or better - but that they overestimated their chances by 15 percent. “People are taking risks they would not want to take if they knew their exact chances,” he says.
Beetsma deduces from this that investors likewise exaggerate their prospects of picking winning stocks. So he proposes that securities regulators consider tougher safeguards, such as stricter limits on margin lending, to curb investors’ Panglossian propensities.
For the time being, of course, investors are in a selling funk, not a buying frenzy. “If there’s a lot of uncertainty in the market,” says Beetsma, “people may well become too pessimistic.” Concludes the professor, “People have a tendency to exaggerate.”
