Why do columns criticizing meme stock investing in such names as GameStop
and AMC Entertainment Holdings
attract scores of comments deriding the author in personal terms without engaging on business economics? Why do we see new funds committed to investing solely in companies that oppose progressive politics versus funds committed to social impact investing?
Polarization used to be limited to politics but it’s making inroads into the investing community. In his new book, “The Constitution of Knowledge,” author Jonathan Rauch looks at how political divisions now become magnified into polarizing, mean-spirited fights between factions in many contexts. The discussion draws on the psychology of groups that also helps to explain some of today’s mean-spirited chatter on investing topics, from meme stocks to “values” investing.
People don’t get fired up about most topics in life, because being wrong and changing one’s views doesn’t present any major psychological costs. For instance, if people learn something new about setting a uniform international global tax rate, they readily correct their views at no personal cost.
But passions rise when views form part of one’s identity. That happens when the views define membership in a group. Political affiliation is a classic example of group identity and the crowds that create meme stocks is a modern one. Changing one’s views poses considerable psychological costs, by being separated from the group identity.
The costs of changing identity-based views make people cling to them, even in the face of evidence that the views are incorrect, from meme stocks really lacking in business rationality to social impact investing actually hurting those it claims to help. One reason for group convergence is individual fear of being ridiculed or outcast. In theory, members could play devil’s advocate to bend the creed when new evidence appears. But the tendency is for members to favor existing beliefs and seek supporting evidence. They discount contrary information.
Views get hardened through today’s tech channels that form echo chambers and confirmation loops, especially internet chat rooms, social media, group blogs, and email newsletters. Tribal-like creeds take hold, such as that markets are deliberately rigged for institutions against individuals, that capitalism is inexorably oppressive, or that corporate America is “going woke.”
Rauch calls the result “epistemic tribalism,” meaning groups declare what’s true, whether or not nuanced or realistic, such as that all short sellers are bad or high stock prices validate those who pay them. The group is a team whose players unite around the identifying beliefs, even if short selling increases pricing accuracy or that history is littered with bubbles that burst.
It can be rational for group members to support confirmation loops and market bubbles despite being wrong. Powerful incentives see to that, such as staying in the group, keeping the friendships made, and feeling the power of membership. Defecting, by denying the information, including by selling a stock or shorting it, is self-excommunication, a real personal cost.
But what’s rational for members can be devastating for society as a whole, if the group’s influence spreads substantially. This is the old “tragedy of the commons,” referring to the classic idea that sometimes what’s good for individuals becomes tragically bad for society.
Meme stock traders seem to be having fun and some have made money, but is that good for channeling investments in the economy? Some political progressives seem willing to sacrifice returns for virtue, while some conservatives now pick stocks based on a company’s ideological signals. Both seem happier as a result. But is that good for the economy?
Rauch laments that the “cults” he discusses are “on a collision course with reality,” whose inevitable end is self-destruction. In that case, expect unraveling of these social and political approaches to investing, and a validation of the venerable approach based on business and economic fundamentals.
Lawrence A. Cunningham is a professor at George Washington University, founder of the Quality Shareholders Group, and publisher, since 1997, of “The Essays of Warren Buffett: Lessons for Corporate America.” For updates of Cunningham’s research about quality shareholders, sign up here.