Why Your Brain Hates Good Investment Strategies

On social media, I read many critiques of managed futures strategies…also from people I consider intelligent. These posts got me thinking about a fundamental tension in investing: some of the strategies that work best mathematically are often the hardest to stick with emotionally.

The Torture of Positive Skew

Managed futures strategies are notorious for their positive skew: frequent small losses punctuated by occasional large gains. On paper, this sounds great. In practice, it’s psychological torture.

Think about it this way: if you lose a little bit of money 60% of the time, you spend 60% of your investing life questioning your decisions. Each small loss feels like evidence that “it’s broken this time.” Meanwhile, the big gains that make the strategy profitable feel like lucky accidents rather than vindication of your approach.

Compare this to stocks, which exhibit negative skew, frequent small gains with occasional large losses. Most of the time, stocks go up a little bit. This feels good! You spend most of your time feeling smart and validated. The infrequent crash is where trauma strikes (and sometimes it’s over relatively quickly, see ‘recent’ past).

The math might favor positive skew, especially in a portfolio, but human psychology definitely doesn’t.

The FOMO Multiplier Effect

This psychological challenge is amplified by something I call the “FOMO multiplier effect.” We’ve never had more investment choices than we do today. Every day, there’s a new ETF, a hot crypto play, or a trending strategy on fintwit.

When your current strategy is underperforming (ouch, positive skew), you’re constantly reminded of what you could be doing instead. That managed futures fund losing 0.5% today? Bitcoin is up 3%. That value strategy going nowhere? Growth is ripping.

Having more choices should theoretically make us better investors. Instead, it makes us more impatient. We abandon strategies before they have time to work because there’s always something shinier performing better right now.

The Gold Rush Paradox

I’ve been getting more emails lately from readers (and podcast listeners) asking about gold allocations. And I think this is happening not because they’ve discovered some new research about gold’s diversification properties, but because gold has been going up.

This is investment decision-making at its most human. People aren’t buying gold because it’s cheap or because it offers better portfolio protection than it did five years ago. They’re buying it because recent performance makes it feel safe to own.

The irony is delicious: the more gold goes up alongside stocks, the less diversification benefit it’s likely to provide going forward (at least in the short-medium term). But rising prices create a psychological permission slip to buy. You’ve convinced yourself you’re being prudent by diversifying, when really you’re just chasing performance. At least when you are a diversification tourist instead of a multi-generation local.

Meanwhile, bonds (the ones with duration), which are offering their highest real yields in over a decade, remain deeply unpopular. Why? Because they’ve performed poorly. The market is literally the only place where things on sale don’t attract more buyers.

The Index Fund Escape Hatch

This psychological framework also explains why passive indexing has become so popular. It’s not just about lower fees or academic research (though those help). It’s about psychological relief.

When you buy and hold a broad market index, you remove the constant decision-making burden. You can’t second-guess yourself into a different strategy because you’ve automated the choice. You can’t torture yourself wondering if managed futures or gold or crypto would be better because you’ve committed to riding the market’s long-term upward trend.

Index funds work not just because they’re mathematically sound, but because they’re psychologically sustainable.

We haven’t experienced a prolonged market downturn in years, nothing that lasted beyond a few months of discomfort. This creates a powerful behavioral loop. Even skeptical investors watch that upward-sloping line on their portfolio statements and forget about risks. The momentum becomes self-reinforcing.

But here’s what’s really interesting: when you examine the broader investment landscape, index funds are starting to look downright conservative (!!). In a world where retail investors are piling into meme stocks, crypto derivatives, and single-stock everaged ETFs, a simple World index fund appears almost quaint by comparison. For many, “VWCE and chill” represents dipping their toe into what they perceive as the safer end of the risk spectrum…even when we’re talking about 100% equity exposure.

The legitimization of Bitcoin as a portfolio allocation (now accepted by mainstream financial advisors as a reasonable 1-5% holding) has paradoxically made traditional index funds seem even more sensible. When your financial advisor suggests a small crypto allocation alongside your core equity holdings, suddenly that total stock market index fund feels like the responsible choice.

Meanwhile, a structural shift is occurring across Europe. Countries are gradually moving away from unsustainable state-sponsored pension systems toward private retirement accounts. This transition forces millions of average Europeans to confront investment decisions they’ve never had to make before. Once someone learns the difference between an active mutual fund and a passive index fund, the leap to low-cost ETFs becomes a natural next step.

Why Markets Trend

All of this helps explain why markets trend in the first place. If investors were perfectly rational, prices would quickly adjust to fair value and stay there. But we’re not rational, we’re human.

We chase what’s worked recently and avoid what’s performed poorly, regardless of future prospects. We get impatient with good strategies during their inevitable periods of underperformance. We mistake short-term noise for long-term signal.

These behavioral patterns create self-reinforcing cycles. When something goes up, it attracts more buyers, pushing it up further. When something goes down, people sell, pushing it down more. The trending continues until the pain becomes unbearable or the opportunity becomes undeniable.

The Uncomfortable Truth

The investment strategies that offer the best long-term risk-adjusted returns are often the ones that feel worst to implement (in the ‘passive’ world, obv). They require you to lose money and underperform, stay patient when others are getting rich, and buy things that are unpopular.

RCM Alternatives wrote a great post on why high volatility strategies are actually good. Here are the main points:

Rebalancing Bonus: Higher volatility creates more frequent rebalancing opportunities. When your high-vol alternative swings dramatically while equities remain stable, systematic rebalancing forces you to “sell high” and “buy low.”

Convexity in Extreme Scenarios: High-vol strategies perform disproportionately better in tail events rather than just moderately better in normal downturns, exactly when you need exponential protection. This is the kind of convexity that the Sharpe ratio penalizes but the Sortino ratio properly rewards.

Reduced Style Drift: Lower volatility alternatives often achieve smoothness by gradually shifting toward equity-like exposures when volatility spikes (negative skew again!). High-vol strategies maintain their alternative characteristics when you need them most.

Better Risk-Adjusted Returns (When Measured Correctly): When you use metrics that only penalize downside volatility, high-vol trend following often shows superior risk-adjusted performance compared to its smoother counterparts.

More Bang for Your Buck: With most alternative strategies charging similar management and performance fees regardless of their volatility profile, high-vol strategies often deliver significantly better return per dollar of fees paid. If you’re paying 1.5% management and 15% performance fees, getting 40% returns during a crisis versus 10% returns means dramatically higher net returns for the same fee structure.

The strategies that FEEL best are often wealth destroyers in disguise.

Understanding this doesn’t make it easier. But it does help explain why markets behave the way they do, and why the best investors are often the ones who’ve figured out how to manage their psychology rather than just their portfolios.

What I am reading now:

Follow me on Bluesky @nprotasoni.bsky.social