The Dangers of Emotional Investing: Is the University of Michigan Survey Still Relevant?

This week’s Barron’s article on the declining reliability of the University of Michigan Consumer Sentiment reinforces two key principles we emphasize at RAM:

1)     Avoid letting emotions influence investment decisions.

2)     Garbage in, garbage out.

The article notes that “the correlation between sentiment readings and spending has broken down” as “Growing political bias among Americans looks to have caused some noise in the survey's inflation expectation readings. It is well-documented that consumer confidence reflects partisanship bias, as well.”

Essentially, the survey is now capturing negative political sentiment in its readings and is thus deriving inaccurate signals on the actual state of consumer spending, which continues to be healthy.

The article continues. “Any economist looking at this data will have doubts as to whether these estimates should be taken at face value”.

We agree with the conclusion of the article that when one lets emotions sway their investment decision-making process, poor results can be expected. The field of behavioral economics focuses on helping investors identify and remove emotional biases from investing to achieve better results.

We also point out the looming dangers of this kind of feedback loop in quantitative investing, especially AI driven models. A quant model seemingly would look at this negative Michigan survey sentiment, then correlate actual strong consumer spending data to arrive at the conclusion that when investors are more pessimistic, they spend more. i.e. garbage in garbage out.

We have always advised investors to think for themselves and to take an active role in their investment decisions. One of the most impactful books we have read is Blink: The Power of Thinking Without Thinking by Malcolm Gladwell. Essentially, the book argues that if you think something isn’t right, trust your instincts. Applying this logic to the Michigan survey results, it simply doesn’t make sense that negative sentiment results in higher spending. Investors should challenge the results and not accept the conclusions at face value.

The power of active vs. passive investing is to take advantage of inconsistent data and actions to achieve positive investment results. In our view, thinking for yourself always produces a better investment outcome.

Notes:

Barrons Article (subscription required): A Well-Known Consumer Sentiment Survey Is Sending Misleading Messages. Here’s Why. - Barron's

Disclaimer: This content is for informational purposes only and is not a recommendation or advice. Investments and strategies mentioned are not suitable for all investors. Opinions are based on current market conditions and are subject to change. No one can predict or project performance, and forward-looking statements are not guarantees. Past performance is not indicative of future results. Investing involves risk, including the potential loss of principal.