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What Do A-Rod and the Market Have in Common?


Both brought down by mob mentality.

There's a lesson in almost everything if you know where to look - or if you have a habit of associating unassociated things.

Why would as talented a ballplayer, as great an athlete, as Alex Rodriguez resort to steroids, when he was so good without them? He was hardly a kid when he did them, and he had already signed a contract to set him up for several lifetimes - even with an expensive divorce, Madonna, and so on.

It seems he did because he was worried that other guys were doing it too, and they would catch up to his stats unless he jumped on the performance-enhancement bandwagon.

I can see it now. "A-Rod, why are you doing this stuff? Your game is great as it is! It's going to make you sick!"

"Yeah, but the other guys are doing it."

So much of investing -- especially so-called professional investing -- gets done the same way. Money managers of various types end up doing things to be like the other guy; to be in line with their benchmarks; to make sure they're somehow keeping up.

It means not thinking for yourself, and it means crowded trades. Crowded trades -- too many people doing the same thing at the same time, especially with leverage -- leads to panics, forced selling and unhealthy volatility.

The culprit is an over-reliance on benchmarks and the worst human instincts associated with them. Benchmarks -- averages and indices for asset classes and investing strategies -- can be useful to a point. A fund dedicated to short selling that was up 5% last year obviously didn't do a very good job, and an investor down 10% with an advertised strategy of going long financials performed more than admirably.

The problem is that benchmarks, frankly, feed on both our tendencies toward laziness and crowd-following. It's a lot easier, if you're an asset allocator, to compare a hedge fund's bottom line to some kind of composite than it is to actually learn about what the fund does. What might sound like a so-so number might actually be a very good -- or very bad -- one. You won't know if you don't do your homework.

Same for sports. Is it really smart to pay big dollars for an athlete if it turns out the guy was juicing? It just means trouble in the long run if he gets caught or if his body starts breaking down. But you have the short-term satisfaction, as a lazy general manager, of knowing you signed the guy who led the league last year.

Nobody actively pursues known juicers, just like nobody invested with Bernie Madoff in full knowledge that he was running a Ponzi scheme. The point is that it's not good enough to look just at the results. You have to make some educated guesses about how they were generated.

When we just try to do what the other guy is doing -- such as making aggressive loans because, like former Citigroup (C) head Chuck Prince infamously said 2 years ago, "When the music stops, in terms of liquidity, things will be complicated. But as long as the music is playing, you've got to get up and dance. We're still dancing," -- that's even worse. It's essentially saying, "We know it's wrong and will cause trouble, but we're doing it because everyone else is."

Way to be, guys: messing with your health -- and the health of the economy and the markets -- because of peer pressure.
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