Fashion is the great governor of this world; it presides not only in matters of dress and amusement, but in law, physics, politics, religion, and all other things of the gravest kind; indeed, the wisest of men would be puzzled to give any better reason why particular forms in all these have been at certain times universally received, and at other times universally rejected, than that they were in or out of fashion.

Henry Fielding, The True Patriot

In investing, as in fashion, fluctuations in attitudes spread widely without any apparent logic.

Psychologists have long known that individuals allow themselves to be influenced by the herd mentality, or the “madness of crowds,” as Charles MacKay, author of Extraordinary Popular Delusions and the Madness of Crowds, described it back in 1841. The herd mentality is a desire to be like others, to be part of the “action” or “scene.” This mentality manifests itself in the fashion world where, like the length of a skirt or the width of a tie, fashions come into and go out of favor for no apparent reason. But fads are not limited to the world of fashion. Fads come and go in most endeavors. For example, in the 1950s, westerns dominated television screens. Today, there are no westerns to be found. Later, situation comedies became the staple of network television. Today, we have reality shows. Even diets come and go, from the grapefruit to the South Beach to the low-carbohydrate diet.

Since fashions affect social behavior, is it not logical to believe they affect investment behavior as well? Charles MacKay put it this way: “Every age has its peculiar folly: some scheme, project, or fantasy into which it plunges, spurred on by the love of gain, the necessity of excitement, or the force of imitation.”1 Sir Isaac Newton was reported to have said about the investment mania of his day, the South Sea Company: “I can calculate the motions of heavenly bodies, but not the madness of people.”2

When it comes to investing, otherwise perfectly rational people can be influenced by a herd mentality. The potential for large financial rewards plays on the human emotions of greed and envy. But whereas changing the length of a skirt or width of a tie won’t affect your net worth in any appreciable manner, allowing your investment decisions to be influenced by the madness of crowds can have a devastating impact on your financial statement.