The Dow Jones dropped 1,032 points on Monday and 879 points on
Tuesday due to concerns about COVID-19.
It seems logical that a slowdown in activity would negatively impact the
global economy. And since things were
already heading downhill last year - GDP growth in 4thQ was 2.1%, before
corrections which generally lower it significantly - we are not well poised to
withstand a downturn.
So investors have to decide what motivates them more. FOMO or loss aversion.
We are hard wired to fear change. And we hate to lose more than we like to
win. It's called "loss
aversion." In their seminal study
on Prospect Theory in 1992, Tversky & Kahneman identified a two to one
ratio. Meaning that we hate to lose
twice as much as we like to win. (Tversky & Kahneman, 1992)
On the other hand, we also hate to miss out. That's why sales of tickets for Broadway
shows soar after they announce their pending closure. So that's where the FOMO comes in. A move to safer investments could mean losing
out if the stock market continues to climb.
So the question is which of these opposing forces will win
out. I'm betting on loss
aversion. How about you?
Tversky, A. & Kahneman, D. (1992) Advances in Prospect
Theory: Cumulative Representation of Uncertainty. Journal
of Risk & Uncertainty. Retrieved
February 25, 2020, from
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