How often do you say, “I read it somewhere”?
This is what happens when we remember facts but can’t remember where we learned them. This is a form of source amnesia, according to neurologist Steven Novella. Source amnesia is normal: We often acquire information but forget when and where we learned it.
Defining Memory Contamination
Our memories form over time as we recall events and create narratives that make sense to us. Our memories are usually reliable, but Novella points out the limitations:
“Our memories are not an accurate recording of the past. They are constructed from imperfect perception filtered through our beliefs and biases, and then over time they morph and merge. Our memories serve more to support our beliefs rather than inform them.”
Memory contamination happens at the time our memories are formed, both initially and subsequently. And if we read both fact and fiction, our memory will have a hard time separating the true claims from the false ones. This is called truth amnesia.
For example, let’s say we hear a rumor that apples cause cancer. We store it in our memory along with everything else we know about apples. And later, when our brains retrieve information about apples, the truth is contaminated by rumors and half truths.
This combination of source amnesia and truth amnesia creates memory contamination. Novella describes this process in Your Deceptive Mind: A Scientific Guide to Critical Thinking Skills. Memory contamination is not a problem with our ability to recall information. Rather, the flaw lies in how our original memories are formed.
Imagine you spend a day playing softball with friends and follow it up with dinner and conversation. Everyone has an opinion as to why the winning team won the game. Maybe it was the pitching, hitting, or defense. No one can remember every single play, but nevertheless, you create a narrative in your mind.
Meanwhile, as a social creature, you also want to conform your memories to those of other players. So as you discuss the game over your meal, you form a narrative — a memory — that is based on and influenced by those around you as well as their recall of the game, not on the game itself. And that narrative is not actually true.
This does not have to be deliberate deception, but we wind up with a narrative that is misleading, incomplete, or oversimplified.
So what does this have to do with investing?
In my last piece in this series, I described how Metallgesellschaft influenced oil prices in 1993 and 1994. No doubt journalists heard rumors about MG since it was a huge scandal at the time. But these rumors would have been a mix of facts, speculation, and innuendo. The rumors offered no clear and obvious narrative about oil prices. And they clashed with the longstanding understanding that behind every oil price movement lurked the omnipresent hand of the Organization of Petroleum Exporting Countries (OPEC). To counter the OPEC narrative would have meant going out on a limb and contradicting conventional wisdom — and divulging a truth that was not so easily understood.
In these situations, we wind up with a story that is simplistic and with a memory that is misleading.
This is more common than most investors would like to admit. Our memories of financial news and history are probably contaminated with all kinds of inaccurate or incomplete narratives.
And if our memories are contaminated, so are the rules of thumb we use to make investment decisions.
You could say that we suffer from “heuristic contamination.”
As if this isn’t challenging enough, the media caters to our need for simplicity. We want everything reduced to an easy-to-understand headline, preferably one that confirms what we already know. And the more sensational, the better.
These headlines mix fact with fiction to grab our attention and tend to reduce complex issues to simple cartoons. They are composed in two easy steps:
After you create a cartoon version of events, just inject a dose of fear into the mix and voilà! You now have a blockbuster article, ready to go viral.
Let’s say that someone claims that “Corporate earnings are crashing!” This triggers an emotional response that reinforces the memory, regardless of its accuracy.
Repetition also reinforces memories: If lots of sources say that “Earnings are crashing,” that will stick with us and we’ll be more likely to believe it is true. This is the foundation of political propaganda: Repeat the dogma until it becomes the truth.
We must be careful with sensational news because this nonsense can plant phony ideas in our heads, like weeds, that eventually creep into our long-term memory.
How to Reduce Memory Contamination
There is no easy way to develop a deep understanding of a topic. In-depth research requires that we consider a variety of perspectives. One way to reduce the risk of memory contamination is to inform ourselves with facts before exposing ourselves to the tabloid version. When we have a fully informed opinion and a broad understanding, sensational headlines have less of an emotional impact.
Here’s how to protect yourself:
- Start with the facts.
- Form your own opinion.
- Check other sources that you know are reliable (in case you missed something).
- Then you can be safely exposed to tabloid news without fear of contamination.
By the way, we can safely skip step four. Personally, I don’t think it’s healthy to read too many sensational headlines. I find that these exaggerations can get mixed into my memory and mess things up.
Even when we are aware of memory contamination, we are still vulnerable to its effects. It’s like dieting: Knowing about temptation does not make you immune from the lure of a hot fudge sundae. So you’re better off if you just steer clear of Häagen-Dazs and Baskin-Robbins.
Likewise, investment knowledge is not enough: You must change your investment process and your reading habits to mitigate your behavioral biases.
It All Together
When I reviewed corporate earnings in early 2019, here are the steps I followed to understand consensus, question the narrative, and avoid memory contamination:
Corporate Earnings in Early 2019
1. Understand Consensus
FactSet Insight, 8 February 2019. This is my source of data about trends in corporate earnings.
2. Form My Own Opinion
Revenue growth in the fourth quarter of 2018 was inflated at
- The energy cycle is boosting aggregate earnings: Revenue growth of 98% in 4Q inflates the aggregate revenue growth for the S&P 500.
- The communications services sector has exaggerated revenue growth: Alphabet/Google was double-counted, and the 2018 numbers include traffic acquisition costs, boosting the sector’s revenue growth from 12% to 20%.
- Looking ahead, revenue growth in 2019 should normalize at 5%, with 5% earnings growth.
3. Question the Narrative
- Fundamentalis, various posts in early 2019.
- Brian Gilmartin, CFA, confirmed the impact of the energy sector on earnings trends.
- He also noted that Apple is dragging down earnings estimates (from 4.9% to 4.2%).
- Dash of Insight, 9 February 2019
- Jeff Miller didn’t raise any red flags about earnings in his weekly review.
- People believe a false narrative that crime is rising in the United States.
Conclusion: My final opinion is unchanged, but I gained some additional depth and insight — without memory contamination.
Why Is It So Hard to Be Simple?
Back in 2015, Jason Voss, CFA, asked, “Which Challenges Do You Face Most Often in Your Professional Life?” The overwhelming majority of poll respondents cited information overload.
There is too much investment data out there, and we feel compelled to consume it all.
do we feel the pressure to read so much?
Sometimes we read to show how much we know, to impress clients and co-workers. Sometimes we read because office politics dictate that we keep up appearances. And sometimes we read because we are trapped by our own pride and hubris, believing that we will make better decisions if we read until our eyes turn red.
Reading financial news does not have to be so stressful. If I had to boil it all down to a few steps, I’d say:
- Understand what clients need.
- Develop a simple investment process.
- Design your reading priorities accordingly.
- Build relationships with people you trust.
- Be accountable for mistakes.
Just do your best, and let the chips fall where they may.
Thanks for sticking around to the end. A complete version of the entire How to Read Financial News Redux series, with endnotes, is forthcoming. But until then, I welcome your comments.
- What did I get right?
- What did I miss?
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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.
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Continuing Education for CFA Institute Members
Robert J. Martorana, CFA, has worked on the buy-side since 1985 as a stock analyst, portfolio manager, research director, financial advisor, and editor of a hedge-fund website. In 2009, Martorana founded Right Blend Investing, a fee-based RIA that manages individual portfolios and does consulting for the asset management industry. RBI has one unique claim to fame in that it supports an orphanage in Andhra Pradesh, India.
Since 2011, Martorana has published over 1,000 pages of contract research, and he is co-author of Alts Democratized by Wiley Finance.