An experiment carried out by researchers at the California Institute of Technology and Virginia Tech showed that in any financial game there are speculative bubbles blowing between investors, i.e. commodities and securities are trading at steep prices. The demand for such assets is growing until the prices fall causing huge losses for investors. But the American scientists found out that activity in some area of traders’ brains might track when price bubbles will blow. The findings were published by Read Montague, a professor at Virginia Tech and University College London, in the Proceedings of the National Academy of Sciences journal.
The study covered 320 participants and 16 experimental trading sessions. 11 to 23 volunteers, who were undergoing magnetic resonance imaging in an MRI machine, partook in each round. Examiners had not expected the speculative bubble to swell in each session: as price rose, so did activity in that part of the brain, establishing a biomarker for irrational exuberance. The researchers made a surprising discovery. There are three types of investors: risk-takers those who buy ‘overheated’ assets intending to sell them higher; cautious investors who are not really involved in bubble swelling; and the intermediate type of investors who are neither so adventurous nor risk-averse. As a result, when the bubble deflated, investors of third type get the biggest profit, while risk-takers have the least. The experiment illustrated that risk-takers and cautious investors have different part of the brain activated while trading. Impetuous traders have nucleus accumbens, the group of neurons in the ventral striatum, flipped on. This part of the brain is an important component of mesolimbic pathway widely believed to be a ‘reward’ pathway and ‘pleasure neurotransmitter.’As for the cautious investors, they used the anterior insular cortex, which "active during bodily discomfort and unpleasant emotional states, such as pain, anxiety and disgust," paper writes. Thus, in the time when the bubble was vastly inflated, such investors started getting rid of ‘overheated’ assets.
So, the anterior insular cortex activation might signal that the crash is inevitable, scientists state. Colin Camerer, professor of behavioral economics at California Institute of Technology (Caltech), is of the opinion that analysis of assets’ price alone is not able to predict a financial crisis. Neuropsychology and its methods can create new tools for making such kinds of forecasts, he noted.
