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Night of the Living Dead Investors

With Halloween and El Dia de los Muertos (the Day of the Dead) coming soon, the moment seems right to talk about investing like a zombie. Which is what most of us do. We are like the living dead in George Romero's classic horror films who listen to the voices of others telling us how to invest.

We're told to stay invested in the stock market whether it's going up or down, because in the long run, it appreciates more than other investments, like bonds or cash. Yet even in our zombie-like states, as financial TV analysts and columnists tell us to just keep investing in the latest stock … we've noticed that the stock markets haven't gone up for the past two years.

For instance, the Dow has been trading in a range around 10,500. Since January 2004, it's lost between 1 percent and 2 percent.

That's a long time with neither a definite bull market nor bear market, and we have learned not to depend on the stock market for ready cash -- or the feeling of wealth from an upwardly mobile portfolio. In fact, with the economy reeling from the effects of massive hurricanes and the deficits created by the war in Iraq, some of us may even have begun to think that the financial markets are heading for a nightmarish downturn. And we can't seem to forget that, throughout the decades, Octobers have been scary months for the financial markets -- witness the crash in October 1987 when U.S. equities lost one-fifth of their value.

We may be zombies, but we have long memories.

So, instead of depending on financial markets that are on the fritz, we've all marched like pod people from our houses to our bankers to take equity out of our homes. In olden days, our parents would have thought we were crazy -- that's like eating your seed corn, they would tell us. But no one tells us that now. In fact, the director of this film we're starring in now, Federal Reserve Chairman Alan Greenspan, has encouraged our mindless behavior by providing the financial system with easy money to create easy-to-get credit at low rates.

But even a central banker sometimes realizes that the law of unintended consequences can create havoc. Although Greenspan shares responsibility for the madness that motivated consumers to keep spending to keep the economy on its feet (remember, wages are not keeping up with consumption now, and past-due credit payments hit 4.81 percent in September, the highest percentage since the American Bankers Association started tracking the number in 1973), he actually worried enough about the ensuing housing bubble to do a study with another economist at the Fed.

Greenspan discussed this study of home-equity extraction in a speech to mortgage bankers in September, when he said that (wowie-zowie!) "survey data suggest that approximately a fourth to a third of the value of home equity loans and cash-outs finances personal consumption expenditures directly."

Instead of using the markets for investing and increasing our wealth, we have turned to the asset we live in. We're taking money out from our appreciating homes to spend on items that we both want and consume right now, like that new iPod nano. This strategy has worked as long as the price of houses continued to go up. But since the Fed began to raise rates at the beginning of this year, and as house prices begin to plateau, people will no longer be able to get equity out of their home as if it were a giant ATM.

Which leads us zombies back to the markets for investing. A study by scientists at Stanford University, Carnegie-Mellon and the University of Iowa tells a story we might appreciate -- that people with certain kinds of brain damage make better investment decisions, because they lack fear and anxiety, emotions that happen to be basic to humankind. Unfortunately, the scientists also point out that these same brain-damaged participants in the study had higher rates of personal bankruptcy in real life than other participants. Not a good omen for a happy life.

All in all, it seems no matter which brain we use -- our own, or a zombie brain that's easily manipulated by others -- too many of us are destined to make bad investment choices, usually because we follow the brainless herd-like behavior of other investors. Behavioral economists have done several studies in recent years that plainly show investors to be their own worst enemies, because greed and fear lead them to make irrational choices. The more recent "brain damage" study only adds to the ever-growing body of evidence that shows why we cannot afford to give ourselves the benefit of the doubt when it comes to making "rational" investment choices. Our emotions won't let us.

But there is hope. It comes from realizing that the market is the biggest zombie of them all and shows no mercy to our personal emotions. That's why we must latch upon a method that helps to provide the discipline to invest successfully with the least amount of emotion. Without that discipline we will be whipsawed by price trends that always have and always will be driven by the collective emotion of those buying and selling in the markets. Once we understand that emotion, we can use it to our benefit rather than contribute to it. We may not actually be emotionless zombies in real life, but there's something to be said for becoming more like them when we invest.

Susan C. Walker writes for Elliott Wave International, a market forecasting and technical analysis company. She has been an associate editor with Inc.magazine, a newspaper writer and editor, an investor relations executive and a speechwriter for the Federal Reserve Bank of Atlanta. She received her B.A. in Classics from Stanford University.