Herding bias is thought to be the most influential bias in trading markets. In a 2015 survey by the US CFA Institute 34% of members ranked it the most influential. Its nearest rival – confirmation bias – was named by just 20%.
Herding is simply following the herd, doing what others are doing, following the trend, fashion or craze. And it especially means following the herd when your own analysis, logic and instinct tells you to buck the trend and do something different.
With investments, the herd instinct leads to widespread investing in particular markets or even individual stocks or shares, sometimes causing prices to rise quickly. It is considered the main cause of bubbles, including the dotcom bubble.
Reasons to flock
There are both push and pull factors at play. The crowd is usually right – most of the time lots of people think something is a good thing because it is a good thing. Not following the herd would be stupid.
But if you get it wrong and your investment goes down, being part of that crowd makes you feel less negative than if you were on your own. Go it alone and get it wrong and the crowd will laugh at you. It was your mistake, nobody else’s. There’s nobody to blame.
A similar sized error will feel many times bigger if you were taking an unorthodox route rather than conforming. There is also the negative feeling associated with being an outcast.
Loner or maverick?
Going against the herd can be hard. There are subtle differences in language. Fail and you will be dubbed a loner, a recluse, a lone wolf or an outsider. Maybe you’ll just be called a weirdo or kooky.
Succeed and a different dictionary is used. A maverick is a badge of honour. Being described as eccentric, Left Field and nonconformist feels empowering. You will have shown independent spirit or be seen to have ‘cojones’.
But, for many, the risk of negative name-calling outweigh the potential feel-good factor of being a superhero.
Herding, based on emotional responses such as fear, envy or greed are often portrayed as irrational. But herding is natural, according financial psychiatrist Kim Stephenson.
It is a primitive defence mechanism. Cavemen were more successful – and safer – when they hunted as a herd and shared the spoils.