The Wall Street Journal

April 18, 2008


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Testosterone May Fuel
Stock-Market Success,
Or Make Traders Tipsy
April 18, 2008; Page B1

Every morning for a week, 17 harried securities traders at a London brokerage firm began their business day by spitting for science. After analyzing their saliva samples, researchers at Cambridge University concluded that they were watching a stock market on steroids.

The tests revealed a curious fact about the biochemistry of profit and loss: The higher a trader's morning level of testosterone, the more likely that trader would have a profitable day -- up to a point.

[Go to forum.]1
Do you think testosterone plays a role in the irrational exuberance of a stock bubble? Share your view2 with Robert Lee Hotz and readers in an online forum3.

In the test tube of a busy brokerage house, with millions of dollars in play, the scientists explored how the natural chemistry of fear, confidence and exhilaration can influence financial choices in ways that defy logic or economic theory. By monitoring body chemistry, they gleaned hints that testosterone and a second hormone called cortisol may contribute to the irrational bubbles and busts of market behavior.

The Cambridge researchers took an unconventional approach to a longstanding controversy over the importance of emotion in economics. They investigated the biophysical changes in professional securities traders making actual investment decisions. "With hormones, we have a link between the brain and what's happening in the world," said Cambridge senior research fellow John M. Coates, who reported his findings earlier this week in the Proceedings of the National Academy of Sciences. "We want to know how the endocrine system and the brain work together to produce financial behavior."

For better or worse, biochemistry makes money go to our heads. "We need to understand that physiological aspects of brain behavior really impact financial decisions," said MIT financial economist Andrew Lo. In an unpublished experiment, he recently wired securities brokers at the Boston Stock Exchange to medical sensors and gauged their stress, exuberance and tension against real-time profit and loss. "You have to understand the mechanism of how fear and greed impact market decisions," he added.

[Recommended reading]
To learn how biochemistry affects financial judgment, scientists are studying professional securities traders during their normal work day.
* * *
 Cambridge University researchers this week reported on the natural rise and fall of steroid hormones among financial traders in The Proceedings of the National Academy of Sciences4.
 In the Journal of Cognitive Neuroscience5, MIT financial economist Andrew Lo compared the heart rates and other biophysical indicators of 10 Boston-based traders to the rise and fall of prices during live trading sessions.
 Over-confidence and fear have a central place in investment history. First published in 1841, Extraordinary Popular Delusions & the Madness of Crowds6 by Charles Mackay remains a classic in the financial literature of irrational exuberance. Economists Charles P. Kindleberger and Robert Aliber documented the rich history of mismanagement and speculative excess in Manias, Panics, and Crashes: A History of Financial Crises7.
 More recently, Scientific American columnist Michael Shermer explored the evolutionary biology underlying human economic behavior in The Mind of the Market: Compassionate Apes, Competitive Humans and other tales from Evolutionary Economics8.

Among males and females, testosterone is a natural component in the chemistry of competition, animal and human studies have shown. It enhances persistence, fearlessness and a willingness to take risks. Among athletes, it rises in victory and falls in defeat.

In daily trading activity, Dr. Coates and his Cambridge colleague Joseph Herbert looked for evidence of what endocrinologists call the "winner's effect," in which successive victories boost levels of testosterone higher and higher, until the winner is drunk with success -- so overconfident that he can no longer think clearly, assess risk properly or make sound decisions.

"I wondered whether the same thing was happening on Wall Street," said Dr. Coates. Too much testosterone might make traders foolishly overconfident, exaggerating a market's rise. Too much cortisol, secreted in response to stress, might in turn make them overly shy of risk, making a market's downward slide even more precipitous.

They persuaded a midsize London brokerage firm to become their field laboratory. The firm employed 260 traders, of whom four were women. Seventeen men volunteered. Although other researchers have examined how men and women invest, this experiment didn't address gender differences. Neither the brokerage firm nor the securities traders were identified.

All of the volunteers were so-called noise traders, who buy and sell securities quickly to profit from small but fleeting variations in stock prices. Their trades risked up to $2 billion at a time.

"They are in and out, sometimes in seconds," Dr. Coates said. On this trading floor, everything depended on split-second commitments. Paid no salary and no annual bonus, the traders relied solely on profits -- if there were any. "You make money or you leave," Dr. Coates said.

Levels of testosterone and cortisol were tested at the beginning and at the end of the trading day. To ensure a range of financial ups and downs, the researchers conducted their study during a week when a series of major U.S. manufacturing and employment reports were scheduled to be announced. They correlated the steroid hormone levels to how much money each trader made or lost that day.

On mornings of high testosterone, 14 of the 17 traders made more money than usual for the rest of the day. The stress of market volatility on other days boosted cortisol levels. Among some traders, daily cortisol levels rose or fell fivefold, perhaps sapping their confidence.

To all surface appearances, "the experienced traders were quiet and poker-faced, in control," said Dr. Coates, a former Wall Street trader. "In fact, underneath their cool exteriors, their endocrine systems were on fire. It is almost as if they had learned not only to control these hormones but also to harness them."

Dr. Coates warned traders against trying to enhance their market performance by taking testosterone. "I am terrified of people slapping patches of this stuff on their shoulders before they go to work," he said. "We actually think this molecule is destabilizing risk-taking, rather than optimizing it."

Email sciencejournal@wsj.com9.

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