The Herd & Wave in Stocks & Goods

Bob Prechter's reasoning behind the Wave Principle makes good sense. Before I state my comments, a quick take on the 'Needs vs. Desires' distinction as applied to goods and services vis-a-vs stocks. Responding to basic needs is primal. And such responses are tagged 'basic' need-responses. Anything beyond what is a primal need brings with it an element of 'desire', of course in varying quantums. At times even basic need responses are desire driven responses. For example, food's a basic need. Yet blowing up a lot of bucks over a meal at a Michelin star restaurant takes the hunger response beyond the realm of primal into one of desire. So the 'desire' phenomenon isn't restricted to stocks. It operates in goods and services territory, even 'basic' goods.

Coming to stocks, bounded rationality rules. To the average retail investor, what's 'known' about the stock business is minimal. And therefore its natural that what's not rational takes over. The 'crowd' pull works. The belief that the crowd must know is comforting enough to guide stock investment decisions. Again, the crowd phenomenon isn't restricted to stocks. Take for example the Nano problem that Tata currently faces in the Indian market. Part of that problem can be solved if more Nanos are seen on the road. A buyer considering a Nano purchase will be comforted to see a lot of Nanos on the road. If the crowd's buying, the car must be good will be the reasoning.

The Wave principle construct makes superb sense. Simply because it reconciles the technical and psychological sides of stock market behavior into a key point: Herding impulses, which while not rational, are also NOT random. They unfold in clear and calculable wave patterns as reflected in the price action of financial markets. And that's where the principle scores. It builds a pattern out what on the surface seems random.

In the world of stocks and goods, understanding consumer desires and combining that with a reading of rational impulses can help unravel consumption phenomenon. For marketers, that would be a godsend because such information can help manage a brand's marketing mix better.

Amen to the Wave.

Read Prechter's Wave Theorist here. Read the paper in the Journal of Behavioural Finance here.