The Truth about the Wisdom of the Crowds in Social Trading

logomark Anthony Gallagher calendar Last Updated: November 2021 timer 4 min read
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Do you know what the search engine Google, WikiPedia, Yahoo Answers, Quora and Social Trading have in common?

They are all projects that are based on the Wisdom of the Crowds theory.

The wisdom (or intelligence) of the crowds is a sociological theory according to which a mass of individuals would be able to provide a valid and appropriate response to a question more than a single expert will be able to do.

To work properly, it must be based on four principles, which are:

  • differences of opinion
  • decentralization
  • independence
  • aggregation
Table of contents

A classic example of Wisdom of the Crowds

From WikiPedia: “At a 1906 country fair in Plymouth, 800 people participated in a contest to estimate the weight of a slaughtered and dressed ox. Statistician Francis Galton observed that the median guess, 1207 pounds, was accurate within 1% of the true weight of 1198 pounds”. Galton pointed out also that the average of all the entries was beating those of alleged cattle experts.

The Google PageRank algorithm, to decide which pages should be better rewarded in the research, is based on the assumption that individuals themselves, through the use of links, will determine which pages are more important and better than others.

If indeed you search for “Wisdom of the Crowds”, the first result is a WikiPedia page, this because Google has seen hundreds or thousands of people linking to that WikiPedia post when they wanted to talk about this subject. So, it is very likely that a person who seeks it will be satisfied by that result.

The same goes for WikiPedia itself, Yahoo Answers, or Quora, which are based on the contribution of normal users, not experts, and that assume that from the collaboration of a multitude in the end will be generated a better result.

The Crowds in Social Trading

Finally, let’s talk about Social Trading.

There’s no doubt that operating “socially” with companies like eToro or ZuluTrade can be beneficial, because the learning rate of an investor can literally soar.

However, as we said, the Wisdom of the Crowds theory, for it to work, must be based on four principles, and in the context of investments is easy to lose one.

As studies have discovered, a negative example of the Wisdom of the Crowds is provided by speculative bubbles: bubbles show that if you do not respect the four principles of this theory, it will fail. Speculative bubbles arise when investors stop thinking independently and instead of focusing on what the real value of a company might be, they think about what others may think a company is worth.

Those without knowledge and without any experience are easily influenced by others. After all, “If everyone is buying the shares of that company there must be a reason, they are not stupid. I want to buy them too before it’s too late”. Or: “If everyone is following that Signal Provider or Guru, there must be a reason”.

And so everyone buys and follows. The only reason: the fact that others are doing it. And prices and followers rise, and rise again, until the bubble bursts.

When this happens many get hurts, but usually those who suffer most are the last, because the experts, those with the theoretical and practical knowledge, those were already out cashing their big profits.

Thanks to their knowledge, they have been able to look beyond the euphoria of the crowds, the common thought, the rumors. They have observed first all the data and statistics, and were thus able to exit the bubble before it burst. They have been able to think with a clear head, integrating also the wisdom (or perhaps in this case it is better to say the madness) of the crowds.

This is precisely what InvestinGoal is based on. We are the first to recognize the objective value of this theory, or as we say in today’s terms, of the “Social” component of Social Trading.

But since there is a risk of running into a mass conditioning, and since there is our money involved, the Social component cannot be the only one on which to base our investment, but we need basic theoretical and technical knowledge, which are fundamental to have an independent opinion and be able to understand when the “crowd” is going to make mistakes, as the principle of independence says.

Studying + Crowds = Success

When you succeed in combining and balancing the Wisdom of the Crowd with your personal knowledge and experience, then that’s when you will really unleashes this power, and your investment will improve in security, but most of all in performance.

This is precisely what InvestinGoal wants to do.

Leaving you free to draw from the Wisdom of the Crowds, but having first provided you the requirements so that you won’t fall into some “bubble”.

Are you skeptical? Here’s a proof

At the MIT university they have even made a scientific experiment, directly with the participation of eToro. Without being detected, they have managed to decrease the attention of the traders participating in the experiment to all those Trend-Setter elements that could affect too much the view of the crowd.

The Result? The traders participating in the experiment have performed 10% better than those who have traded with no indication from the network, and 4% more than those who only followed the “Guru”.

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About the Author

Anthony Gallagher

Broker Expert

Anthony is a financial journalist and business advisor with several years’ experience writing for some of the most well-known sites in the Forex world.

A trader turned industry writer, he is currently based in Shanghai with a finger on the pulse of Asia’s biggest markets.

He is a keen golfer with a very high handicap so when not helping you find the best broker for your needs, you may find him on the course or just as likely following any number of sports from the comfort of his sofa.

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