Gell-Mann Amnesia – Be an investment skeptic and do your own research

| | Decision-Making

“Briefly stated, the Gell-Mann Amnesia effect is as follows. You open the newspaper to an article on some subject you know well. In Murray’s case, physics. In mine, show business. You read the article and see the journalist has absolutely no understanding of either the facts or the issues. Often, the article is so wrong it actually presents the story backward—reversing cause and effect. I call these the “wet streets cause rain” stories. Paper’s full of them.
In any case, you read with exasperation or amusement the multiple errors in a story, and then turn the page to national or international affairs, and read as if the rest of the newspaper was somehow more accurate about Palestine than the baloney you just read. You turn the page, and forget what you know.”

― Michael Crichton

The Gell-Mann amnesia effect may seem to be an interesting behavioral novelty for cocktail conversation, yet it provides an important lesson for doing research in any financial markets.

It is a good story, but you will not find it in any behavioral finance discussion. There is no actual research on this effect. Crichton wrote about it years ago in a posting “Why Speculate?”. He actually stated in the article, “I refer to it by this name because I once discussed it with Murray Gell-Mann, and by dropping a famous name I imply greater importance to myself, and to the effect, than it would otherwise have.”

If you believe there is an amnesia effect, you should be always be a news skeptic. Market efficiency has the view that all public information is properly discounted in markets and cannot be exploited. Public information is discounted but that does not mean it is done correctly. Reality is likely more nuanced.

Public information can come in two forms: public announcements of data and public announcement that is opinion or observation. Facts are better than opinion, but if you don’t have direct knowledge of facts you are still at risk of getting the meaning wrong.

For a public data announcement, the majority of market participants will read the headline and react. Few will read the details in the data. Headlines may not reflect reality. The headline may say unemployment is lower; however the details within the announcement may provide deeper more useful information that is not present with what you see in the headline. This is one reason why we sometimes have reversals after announcements. Upon deeper reflection, investors change direction.

For opinions of events, reality does not match your direct knowledge because opinions are often condensed reality. Opinions are just one person’s interpretation of events and subject to biases. They are likely to disagree with the direct knowledge you may possess.

Any “Gell-Mann amnesia” can be eliminated by not trusting anything you read that you don’t have direct knowledge. This should limit the investment decisions you make. Stay passive and diversified except for where you have direct knowledge. This tongue-in-check amnesia is just a better way of saying you should be a skeptic. If skepticism is a requirement for investment success, then an investor has to increase his direct knowledge, that is, do his own research. Accept that others will not do their homework because the costs are high. Direct research is the cost of entry for investment success.