Dying to buy expensive stocks? Blame it on 'dopamine' - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

Dying to buy expensive stocks? Blame it on 'dopamine' 

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In this issue:
» India's most expensive stocks
» Brokers pushing investors to small-caps, and how!
» RBI raises interest rates. Good or bad?
» Soros calls gold 'the ultimate bubble'
» ...and more!!

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Have you ever wondered why the anchors and the experts on business channels look a happy lot when stock markets are rising? Look at yourself and there are good chances that you'll be in the same category. We all like rising stock prices. And we all like to invest more into stocks when prices are rising. But we can't call ourselves cynical for this. We are, after all, just acting like humans, driven by what our brains tell us to do.

Yes, blame it on the brain, and a chemical call dopamine. As per neurologists, dopamine is a chemical that is released in our brains when we feel good. And its release makes us feel even better. A flood of dopamine signals to our bodies that something good has happened, like when we feel happy on seeing rising stock prices.

And after a few repetitions, dopamine is released in our brains not when we see stock prices moving up in reality, but when we just start to expect that stock prices will move up in the near future. And that causes us to invest more money in already expensive stocks, as we are 'forced' by our brains to expect rising stock prices.

Is there a way we can control this emotion? Not really. But what we can do is be reflective, and not reflexive, when stock prices are moving up. We need to think, and think hard, before we act. After all, it is our battle against our own brains. But have hope, it can be won!

01:08  Chart of the day
There has been a lot of hue and cry recently regarding how the BSE-Sensex is trading at expensive P/E multiple - currently at 23.2 times. But if one were to see today's chart, there are sectors where stocks are even more expensive than those belonging to the Sensex. See for instance the BSE-Capital Goods Index, which is trading at 35.3 times trailing 12-monhs or TTM earnings. Or then, the BSE-FMCG Index that is trading at 30.2 times.

Data Source: CMIE Prowess

With large cap stocks appearing reasonably or expensively valued, brokers are now pushing their clients to invest in the small-cap space. And they have found one carrot for doing that. As per a leading business daily, one of India's largest mutual funds had recently launched a new fund offer (NFO) for a small-cap fund. So, brokers are now luring clients by saying that this fund is looking to invest in small-caps and this can take their prices even higher. Sad but true!

Our suggestion to you is not to go by such gimmicks. Small-caps, at even lower valuations than large caps, are a riskier lot. So you need to turn over a lot of rocks to find valuable small-cap stocks for long term investment. It isn't as easy as your broker might make you think it is!

Few days ago, we had highlighted how RBI's policy of keeping rates lower than the rate of inflation was proving to be a tax on consumers and were threatening to create asset bubbles. The central bank has finally paid some heed to those concerns.

In the first of its six-weekly reviews today, RBI decided to hike its lending rate by 0.25% and its borrowing rate by 0.50% with immediate effect. These steps will not only make loans more expensive but are also likely to reduce liquidity in the system. RBI has cited inflation as the dominant concern in macroeconomic management. The bank has argued that although inflation has come into the stable territory, it still remains significantly above the trend of 5-5.5% in the 2000s. Hence, there was a need to anchor inflationary expectations as per the RBI.

Furthermore, the rise in interest rates will also help deposit rates to go higher and not allow bank credit to come in the way of growth. All in all, it looks like a very sensible step from the RBI. While this move could hurt equities in the short term, we deem it was important to make the long-term India growth story more sustainable.

Nobody doubts that the economic conditions in the US are grim right now and will be so for some time to come. Economists and experts alike believe that the developed world is headed for a double-dip recession. And in this all pervading gloom, consensus has built up that gold is the best asset class to be in. After all, the way the governments are printing paper currency at the drop of a hat, these currencies are not likely to have much value in the future. Gold, meanwhile, is a tangible asset that has value. But everything is not as easy as it seems. Because gold has grabbed headlines ever since the crisis erupted, the precious metal has been hitting all time highs. To such an extent, that some experts have started questioning whether a bubble is beginning to form in this metal as well. One such expert is George Soros.

Soros has called gold 'the ultimate bubble'. What he means by this is that while gold may go higher, it is not safe and the rise is not going to last forever. He may be right. After all, what does go up too fast has to come down. But the way the scenario is panning out, a fall in gold may not happen anytime soon.

A couple of days ago, Warren Buffett reiterated his belief of the US economy unlikely to see a double-dip recession. His views were based on the improving business conditions, especially of companies that are part of the Berkshire Hathaway portfolio. Buffett's views indirectly state that the US is past its worst days and that he is bullish on the long-term prospects of the nation.

Anyways, his long-time partner Charlie Munger believes that the US economy will not see a sharp recovery anytime soon. This he says as he expects the job market to stagnate for some time to come. He has further added that he sees no signs that would prompt employers to hire in the immediate future. Quite contradictory views to Buffett's!

The rally in Indian markets continued today. The BSE-Sensex was trading with gains of around 85 points (0.4%) at the time of writing this. Mid and small-cap stocks were also trading with marginal gains. Banking stocks remained the leaders today as well. On the other hand, IT stocks were among the worst performers. Most other key Asian markets closed weak today, led by China (down 1.9%) and Hong Kong (down 0.1%).

04:57  Today's investing mantra
"The individual investor should act consistently as an investor and not as a speculator. This means that he should be able to justify every purchase he makes and each price he pays by impersonal, objective reasoning that satisfies him that he is getting more than his money's worth for his purchase." - Benjamin Graham
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11 Responses to "Dying to buy expensive stocks? Blame it on 'dopamine'"

Thresiamma Dominic

Sep 16, 2010

Dear Sir,

Thank you for your latest updates on stocks. It is often seen that, the retailers are suffering more in every occasion whether it is bullish or bearish time.

Expect some more exposures please.




Sep 16, 2010

I got into Bulls and Bears by mistake in 1999 as; I am engineer by profession. It took me almost 2 years understand the market and specially the broker and their magic to make money on once investment; by advising their client to buy and sell of particular stock. With market hype, all the news paper, TV channels are field with recommendation from brokers of the past history and very fantastics reports. Can anyone time the market???
With little bit of sense, staying with Bluechips; one can be assured of atleast 10-15 % return per annum if not more. With the current market condition I have fear and I had greed when the market went to 8-9K. Simple philosophy but very difficult to practise.
You'll guys had lovely artical few days back and today. Being a science student, I always remember Newton's third law " Every action had equal and opposite reaction". There is strong action which is going on and definitely will have equally strong reaction.
I am a very happy investor, and with little experience of market would suggest
1) Buy when people sell
2) Have Fear when the market is running and greed, when market is being smashed
3) Stick to the Bluechips
and you will be a happy investor.

To equitymaster and all members wishing good luck.



Rajesh Shah

Sep 16, 2010

Nice adwise at the right time


Jaisinh Vaerkar

Sep 16, 2010

You were spot on.
I normally do not receive calls from my stock broker as I merely invest and not trade. However I received a call this morning as soon as markets opened and she was prodding me to buy "saying markets will keep increasing so buy now " and I did!



Sep 16, 2010

As I am a practicing Doctor I would like to draw your attention for a minor mistake. the group of chemicals which are released when we are excited or very happy is endorphins; and they are endogenous morphine like compounds released when we are happy. Of course dopamine is also a neurochemical necessary for neural functions but it is not a chemical related to excitement or happiness. However I would like to appreciate the author having such a vast knowledge of unrelated subject.



Sep 16, 2010

Your today's message says
The rally in Indian markets continued today. The BSE-Sensex was trading with gains of around 85 points (0.4%) at the time of writing this.
But actually Sensex was DOWN 85 points!
How come? Wishful thinking?


Dr Jayadev

Sep 16, 2010

It's nice to read your article on Dopamine and broking houses brokering for small caps. Keep up the great work



Sep 16, 2010



Agnel Pereira

Sep 16, 2010

Your one-minute on Dopamine is splendid. Quite an eye catching information - this is why, your reports are different from the rest. I am not looking only for the 'buy', 'sell' 'hold' advice coming from an 'adviser', I quite like the sort of reports that you provide. There are so called large banks whose securities arms give all rubbish recommendations (they give hundreds) and then by law of averages, 1-2 prove to be correct, they go around the town announcing that they achieved their targets!!! Quite unlike you. Keep it up.



Sep 16, 2010

The message was really good and informative. Thanks for the mail. Regards

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