The scene
The scene
Bruno's friend posted on Instagram. Up 100 percent in three months on a coin Bruno had never heard of.
Bruno asked. His friend explained, sort of. Something about a new protocol, a community, a roadmap. Bruno did not really follow. But the screenshot of the gains was real.
He put $3,000 into the same coin that afternoon.
Three weeks later, the coin was down 40 percent. Bruno had $1,800 left. He had never read the whitepaper. He had never checked the team behind the project. He had never opened a chart older than a week.
He did not buy because he understood the asset. He bought because someone he knew was making money.
What your brain just did
What your brain just did
Our minds treat the visible success of people around us as proof that an opportunity is real, even when we have no information about why they succeeded. Bruno is not greedy. His brain simply assumed that if someone he knew was making money, there must be something there worth understanding, the way all our brains do under uncertainty. This behaviour has a name: Information Cascade.
What to do instead, in one move
What to do instead, in one move
The fix is to separate two questions. Is this person actually winning? Maybe. Should I copy what they did? Only if I understand it well enough to defend the position when it drops. If the only reason you can give for owning something is "my friend made money on it", you do not own an asset. You own a bet on someone else's bet.
TL;DR
- Situation: Someone you know reports gains on an investment you do not understand. You feel pressure to act before the opportunity disappears.
- What your mind does: It treats their success as evidence that the opportunity is real, replacing analysis with imitation (this is called Information Cascade, see below).
- Consequence: You buy without understanding the asset. When it drops, you have no thesis to hold against, so you sell at a loss.
- What to do: Never buy what you cannot explain. The presence of someone else's gain is not a reason. It is a signal to investigate, not a signal to buy.
What to do
- Before buying any asset based on someone else's gain, write down three things in your own words: what the asset does, why it has value, what would have to happen for the price to drop 50 percent.
- If you cannot write the three things, you do not own a position. You own a guess.
- Treat unrealised gains as paper. Until the money is back in your account, the success you are copying is a story, not a fact.
- Set a position size for speculative bets that you can afford to lose entirely. Then accept that "lose entirely" is the expected outcome, not the worst case.
What not to do
- Do not buy an asset because someone you know is making money on it.
- Do not assume the person sharing gains will share the losses. Most do not. Survivorship bias is loudest in your social feed.
- Do not invest more after a drop because "now it is cheaper". A drop without a thesis is just a smaller bet on the same guess.
If the only reason you own something is that someone else is making money on it, you do not own an asset. You own a bet on someone else's bet.
Want to understand why this happens?
Information Cascade is the brain's habit of inferring information from the actions of others, especially under uncertainty.
When you do not know how to value an asset, but you see someone else buying it and winning, your brain treats their action as evidence. Maybe they know something you do not. Maybe their gain is proof of a real opportunity. So you copy the action and skip the analysis.
But the next person to copy you reasons the same way. And the next. Each new buyer assumes the earlier ones knew what they were doing. The price goes up because more people are copying, not because the asset has gotten better.
This is not weakness. It is how every human brain handles uncertainty when other people seem confident.
What the research found
What the research found
Researchers ran experiments where individuals made sequential decisions with limited information, able to see what others had chosen before them. After two or three people had made the same choice, almost everyone after them copied it, regardless of whether the choice was correct. The cascade was self-reinforcing.
The fix is to act only when you can explain your own position without referencing what others did.
"Once a few people make the same choice in a row, the rest follow, even when their own information says otherwise. The cascade replaces analysis." — Bikhchandani, Hirshleifer and Welch (paraphrased from A Theory of Fads, Fashion, Custom, and Cultural Change as Informational Cascades, 1992)
This is called Information Cascade. Bikhchandani, Hirshleifer and Welch, Journal of Political Economy (1992).
Get the next pattern before it gets you.
Get free weekly patterns explained in 60 seconds.
Free forever · Unsubscribe anytime
Related decisions
I have been saving these loyalty points for two years. The trip I wanted now costs 50 percent more points than when I started.
Behind this pattern: Endowment Effect (Daniel Kahneman, Thinking, Fast and Slow (2011)).
The annual plan said save 30 percent. I clicked annual. I cancelled three months in.
Behind this pattern: Hyperbolic Discounting (Dan Ariely, Predictably Irrational (2008)).
I have been meaning to set up automatic savings for two years.
Behind this pattern: Present Bias (Richard Thaler & Cass Sunstein, Nudge: Improving Decisions About Health, Wealth, and Happiness (2008)).
I moved $5,000 to a 0 percent card. I planned to clear it before the promo ended. I did not.
Behind this pattern: Planning Fallacy (Daniel Kahneman & Amos Tversky, Intuitive Prediction: Biases and Corrective Procedures (1979)).