Seinfeld billed itself as a “show about nothing”, but there are valuable investing lessons to learn from each 30-minute episode. One of the early episodes—The Stock Tip— uncovers several biases investors exhibit when navigating the market. The episode begins in the Cafe, as many do, where George, Jerry, and Elaine are musing on Superman’s sense of humor over a cup of coffee. After a quick glance at the newspaper, George declares, “Up again?! This is incredible. I’m.. I’m getting it.” He persuades Jerry to take a position in the same stock, claiming he has inside information and knows when to sell.
Trading this way violates not just SEC regulations, but some textbook examples in economics and behavioral psychology. For instance, the efficient market hypothesis insists it is impossible to beat the market as asset prices fully reflect all available information. In the strong form that also includes hidden inside information and therefore eliminates any perceived edge. Had George been aware of basic financial theory, the prudent decision would be to purchase an index fund instead of picking individual stocks. He also makes the mistake of trying to time the market, “Wilkinson would tell me the exact right minute to sell”. In an ideal world, most investors would buy at the bottom and sell at the top. However, most empirical research finds trying to time the market works just as well as a traditional stock picking strategy (so not very).
To any avid viewer of the series, it’s clear that George’s warped mind makes for a fascinating psychological study. But Jerry’s irrational behavior this episode comes as somewhat of a surprise. His decision to follow George’s advice because Wilkinson was on a winning streak resembles the representative heuristic: the tendency to treat recent events as a guiding force of a bigger pattern. Daniel Kahneman describes this hasty generalization as the “law of small numbers”. If a hedge fund manager strings together 2 consecutive years of above-average returns, investors expect this trend to persist going forward. The truth is, a short track record doesn’t demonstrate a manager’s ability to repeatedly outperform the market. And just as it did to Jerry, making decisions on a small series of observations often lead investors astray.
“Oh, I can’t believe it. Let me see that,” Jerry said. “That’s four and a half points in three days! That’s almost half my money!”. After a three day downturn that slashed Sendrax in half (this thing’s on Bitcoin’s level), Jerry cut his losses and sells the stocks. George—determined to be miserable—does the opposite. Many investors fall into a similar trap of selling shares in an upward trend while holding on to the losers. The thought is that rising stocks will give back their gains and the weak ones will bounce back—a phenomenon behavioral economists call the disposition effect. Sure George ended up with a hefty profit in the episode, but oftentimes this behavior can sabotage long-term investment returns. One possible solution is to follow a simple momentum strategy; whereby investors ride the winners longer and cut ties with losing positions.
In one episode, the show about nothing outlined common investing biases that can impact long-term performance. Employing a better-engineered strategy that removes emotion from the decision-making process may be the biggest driver of returns. Of course, George and Jerry probably would make the same mistakes with this valuable information.