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Author: TMFGebinr Big gold star, 5000 posts Top Recommended Fools Old School Fool Supernova Phoenix 1
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Subject: Re: The house's money Date: 12/9/2010 3:52 PM
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Hi CoL,

Thanks for your comments and visiting this board.

I certainly agree with rebalancing an unbalanced position. I did it myself with Netflix.

My issue with that phrase isn't a problem with the sell action, however, but the framing of that action -- the reason given for taking it. As I wrote in the post, "house's money" implies gambling, winning from a faceless entity, the earnings not yet your money. That frames it in such a way that is detrimental to the investor because he then takes more risks with the remaining money (see work by Odean and Barber, for instance).

If the investor instead framed it as rebalancing or taking some of the gain to put into a different position to diversify a bit more, that tells the investor that the remainder is still at risk, should still be watched carefully, that the money is his (not the "house's").

Framing is well-known to affect how we humans perceive events and react to them. I'm sure you've read of studies where the same outcome is framed in two different ways, yet people give contradictory responses. For instance:

The U.S. is preparing for the outbreak of an unusual disease, which is expected to kill 600 people. Two alternative programs to combat the disease have been proposed. Assume that the exact estimate of the consequences are as follows:

• If Program A is adopted, 200 people will be saved.
• If Program B is adopted, there is a 1/3 probability that 600 people will be saved, and 2/3 probability than no people will be saved.

Which do you favor?

<<When asked, 72% of respondents chose Program A -- risk averse.>>

Now change the presentation, the frame, of the two programs:

• If Program C is adopted, 400 people will die.
• If Program D is adopted, there is a 1/3 probability that nobody will die and 2/3 probability that 600 people will die.

Which do you favor?

<<78% of respondents chose D, even though C and D are numerically equivalent to A and B, respectively -- risk seeking.>>

(From The Psychology of Judgment and Decision Making by Scott Plous.)


If the reason the investor tells himself to sell half is to protect the initial investment leaving the house's money in play, that investor will be more likely to make riskier decisions with the remainder than if the reason he tells himself is to diversify into other (maybe better) opportunities. Because of the power of words and framing.

Cramer is doing a disservice to the people who watch his show in framing the reason to sell half of Netflix the way he did. That was the point of what I was saying.

Cheers,
Jim
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