Beware the dangers of greed

The brain’s relationship with money is strange. Psychologists know that the fear of losing a sum of money is more intense than the pleasure of gaining the same amount. What is less often remarked is that it feels better to anticipate a financial gain than to actually achieve it.

You may have experienced this paradox recently as stock markets have built on two years of strong gains with an unexpected third year of positive returns. As we make an investment, we focus on the thrilling possibility that it will rise significantly in value. But if it then does, our response can be curiously subdued.

The buzz of anticipation - greed - is much more exciting than the outcome itself, which can leave us feeling surprisingly flat. Or even anxious, if the fear of losing what we have unexpectedly gained starts to kick in. Like a drinker, we can need a bigger dose to hit the spot. And that is a slippery slope.

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It's worth exploring a bit what’s going on in our brains when markets are as buoyant as they are today. It has important implications for how we are likely to behave if the gains continue, and even more so if they don’t. Because so much of what we do with our money is governed by our impulsive monkey brains, the more we can engage our slower, analytical functions the better. Especially right now, when things are frothing up.

No-one writes better about the psychology of investing than Jason Zweig. If you haven’t read his book Your Money and Your Brain, you should. It may be one of the best investments you make.

While researching the chapter in his book titled Greed, Zweig went to Stanford University where he played an investing videogame while sitting in an MRI brain scanner. Duly wired up, he was shown images that indicated the size of a potential gain or loss together with how easy or hard it would be to capture or avoid it. After seeing the image, he experienced a short delay (to fuel his anticipation) and then came a split-second opportunity to click a button to make (or miss) the ‘trade’.

All through this process, the scanner monitored what was going on in a part of Zweig’s brain associated with rewards like food, sex, drugs, pleasant aromas and even social interactions like trusting someone or pleasing a parent. Perhaps unsurprisingly, the neurons in his brain fired much more strongly at the possibility of winning larger amounts. More interestingly, the rush of anticipation was significantly hotter than the tepid wave of satisfaction that he felt when he clicked in time and secured the gain or avoided the loss.

The pleasure of anticipation can be useful. It enables us to pursue rewards that require patience and commitment. Only by imagining a comfortable retirement can we motivate ourselves to make the sacrifices today that might deliver it tomorrow. But it can be a curse, too, if it distorts our thinking by tipping us over into a riskier, greedier pattern of thinking.

Anticipation is deceptive. It makes our brains better at calculating how big a reward might be than in analysing how likely it is. The bigger the potential gain, the greedier we feel. Which is why frothy markets are so dangerous. When we see investments delivering unsustainable returns, our capacity for rational judgement quickly goes out of the window.

Another interesting aspect of how anticipation fires up our brains is the way in which gambles that simultaneously offer the prospect of gain and the possibility of loss are more pleasurable than ones that only offer a range of positive outcomes. The chance that we could lose money makes the anticipation of winning it more enjoyable. Again, this makes mature bull markets particularly dangerous times to invest. The risk of losing what we’ve gained can, paradoxically, make us chase the market further.

Anticipation is forward looking but also retrospective. It is powerful and dangerous because it taps into the memory of previous big pay offs. We remember these much more clearly and for much longer than the disappointment of bets that didn’t work out. And memories of earlier wins can crowd out more significant information. It’s why we remember our good investments and gloss over the losses - they aren’t fixed in the same way in our memory.

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This is why people who have enjoyed big lottery wins keep buying tickets. They know that the odds are against them and that they just got lucky. But the knowledge of how great it could feel again overwhelms the reality that it almost certainly won’t happen.

If you find yourself resisting the impulse to take some risk off the table after three years of remarkable gains, if you are checking your portfolio multiple times a day or extrapolating recent wins into the future, you are starting to enter the anticipation danger zone. If you are old enough to have lived through the dot.com bubble, your feelings will seem familiar. You have been here before.

This is my second time round this perilous circuit. I’ve enjoyed the buzz of anticipation and the stab of regret after trying to squeeze one last dopamine drop. But I’m 25 years older than I was in 2000 and I’ve more to lose and less time to recover what’s gone. I’m less greedy than I was. Less interested in how much more than in how much is enough.

Self-awareness is no guarantee that you will not make expensive mistakes at times like these. But understanding that the anticipation circuits in your brain will inevitably overheat is a good start. Taming the reflexive part of our brains with reflective self-discipline feels unusually important right now.

Tom Stevenson is an investment director at Fidelity International. The views are his own.

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This article was originally published in The Telegraph.

Important information - investors should note that the views expressed may no longer be current and may have already been acted upon. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to one of Fidelity’s advisers or an authorised financial adviser of your choice.