[extropy-chat] Depressing Thought. from Laurence of Berkeley

[Max More]

At 03:02 AM 11/12/2003, Samantha wrote:

>With all due respect a lot of the dot-com-busts were not about greedy
>executives, at least not in the first instance.  The market itself, and those
>who maintained and pumped it, was at fault.  Most execs at most attempted to
>cash in.  In actuality the game of the money investors had to be played to
>produce at all, even if the game was insane.

The interconnected dynamics of irrational exuberance and corruption are 
fascinating. Here's an excellent analysis focusing on the telecom industry. 
You'll find the links that accompany the review at the URL below.

Max


How the Telecom Industry Went Astray
strategy+business by Raul L. Katz
http://www.manyworlds.com/exploreCO.asp?coid=CO990316331003

In this incisive analysis of the telecom industry's recent disaster, Raul 
Katz applies insights from cognitive psychology, behavioral economics and 
finance, and information economics to answer two questions: Why did 
hundreds of intelligent executives in an important industry become 
irrational investors? And what lessons can business leaders and policy 
makers draw from the telecommunications industry's experience to avoid 
similar "irrationally exuberant" investment decisions? In answering these 
questions they hope to improve decision making in other markets facing 
sudden regulatory, technological, or other drastic changes.

In the course of his analysis, Katz applies several principles of 
behavioral finance and psychology and other disciplines. Drawing and 
expanding on Robert Shiller's approach, Katz sees irrational investment 
behavior as being driven by precipitating events and worsened by amplifying 
mechanisms that override checks and balances. To explain how irrationality 
can conquer an entire industry, Kath uses a two-stage methodology 
consisting of a causality framework and evidence about irrationality drawn 
from systematic anecdotes. The causality framework looks at three steps in 
a firm's decision to enter a new sector of an industry: the development of 
a business plan, the search for external financing, and the search for 
additional funding (typically through the equity markets).

At each of these stages, Katz argues, conflicting interests, analytical 
biases, and irrational behavior shifts investment away from rationality. 
His discussion specifically focuses on four variables that influence 
analytical rigor: the regulatory framework, overestimation of demand, 
overestimation of market share, and mistakes in entry strategy. Katz 
deploys an arsenal of analytical tools to penetrate the telecom industries 
mistakes regarding these variables. He looks at "the myth of unmet demand", 
the "myth of 1 percent technological substitution", the representativeness 
heuristic, the anchoring heuristic, the fallacy of composition, the 
"critical mass trap", the "IBM effect", and the "consistency of strategy 
story". In the course of nine pages, Katz not only thoroughly pulls apart 
telecom investment irrationality, but provides a concise, applied course in 
critical thinking based on cognitive psychology and behavioral finance.

The result of Katz' analysis is a compelling and rich explanation of 
widescale investment irrationality. His analysis corresponds to other high 
quality work in the disciplines used to arrive at these conclusions, and 
should provide useful input for both government policy and corporate 
investment decision making. Companies need to introduce governance 
mechanisms such as smaller boards that bring together decision making and 
accountability, and "red teams" that report to the CEO and the board and 
which conduct due diligence on key investment decisions. Katz' final 
recommendation is to put renewed emphasis on independent risk analysis.




_______________________________________________________
Max More, Ph.D.
max at maxmore.com or more at extropy.org
http://www.maxmore.com
Strategic Philosopher
Chairman, Extropy Institute. http://www.extropy.org <more at extropy.org>
_______________________________________________________