NEW YORK (MONEY Magazine) - On our tour of your investing brain, the first stop is the amygdala (a-MIG-duh-luh), deep in the forward lower area of the brain. (There's one on the left side and one on the right.)
A key part of your brain's early warning system, the almond-shaped amygdala is a kernel of hot, fast emotions like fear and anger. If I threw a rattlesnake in your lap, you wouldn't ruminate about whether it was real or a rubber toy. You'd go flying out of your chair. That's the amygdala kicking in.
| The Brain tour
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Vivid sights and sounds, such as clanging bells, hollering voices and waving arms, can set off the amygdala. Before you even figure out what the fuss is about, you break out in a sweat, your breathing picks up, your heart races. This primal part of your brain is bracing you for a "fight or flight" response.
And it isn't only the threat of physical danger that sets off the amygdala. Using MRI scans, neuroscientists have found that financial gains have a fairly strong effect on the amygdala -- and losses make it flare up like a hot coal. One recent study, led by Grafman of the NIH, found that the more frequently people were told they were losing money, the more active their amygdalas became. And a team of researchers led by Hans Breiter of Harvard found last year that even the expectation of losses sets off a burst of activity in the amygdala.
Long ago, on the plains of the Serengeti, there was probably no harm in confusing false alarms and real ones. If your amygdala sent you scrambling up a tree to escape a lion, you were safe; if what seemed like a lion turned out to be only a patch of brown grass rippling in the wind, having climbed up that tree did you no harm. But in the world of investing, a panicky response to a false alarm -- dumping all your stocks just because the Dow is dropping -- can be as costly as ignoring real danger. For one thing, it can cause you to flee the market at a low point and miss out when the market bounces back.
A moment of panic can also disrupt your long-term investing strategy. Activity in the amygdala can trigger the release of adrenaline, which has been found to "fuse" memories, making them more indelible. Research by Raymond Dolan of England's University College London has also shown that a financial losing streak heats up activation of the hippocampus, a part of the brain next to the amygdala that helps program our memories of fear and anxiety. That may help explain why market crashes, which make stocks cheaper to buy, also make investors less willing to buy them for a long time to come.
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