The Psychology of Modern Markets: Why Emotion Now Drives Returns

The Shift from Fundamentals to Momentum

Warren Buffett built his fortune on fundamental analysis—studying balance sheets, cash flows, and competitive advantages. This dominated investing for decades. However, it's worth noting that even Buffett's strategy has faced headwinds recently with Berkshire Hathaway holding —over $340 billion in Treasuries & cash while the S&P 500 has delivered over a 62%!! returns. Whether this caution proves wise or represents significant opportunity cost, it illustrates value investing can be missing out vs. modern market dynamics.

Modern markets increasingly reward a different skill: understanding collective emotion and behavioral patterns - aka FOMO.

This shift isn't random. Three structural changes have altered the investment landscape:

1. Unprecedented Liquidity
Central banks have expanded money supply dramatically since 2008. When capital is abundant, price discovery becomes less about intrinsic value and more about narrative and momentum.

2. Democratized Trading
Zero-commission platforms and social media have created instant, coordinated sentiment hype. Information spreads at unprecedented speed, compressing investment timeframes where fundamental investing dramatically lags.

3. Attention Economy
In a world of infinite choices, assets that capture attention gain value regardless of underlying fundamentals. This explains phenomena from meme stocks to viral consumer brands.

Emotion-Driven Markets: From GameStop to Meme Tokens

The 2021 GameStop short squeeze demonstrated how coordinated sentiment can override traditional market mechanics. A struggling retailer became a $20+ billion company overnight—not through improved fundamentals, but through community coordination and narrative power.

We see similar patterns across markets:

Meme Stocks: AMC, Bed Bath & Beyond, and others sustained valuations disconnected from earnings based purely on social momentum.

Consumer Brands: Companies like Liquid Death (canned water) achieve unicorn valuations by mastering emotional branding over product differentiation.

Crypto Assets: Dogecoin, Pepe, and various meme tokens demonstrate pure sentiment-driven valuation with no cash flows or earnings.

These assets tapped into powerful psychological triggers:

• Community identity (tribal belonging)
• FOMO (fear of missing out)
• Entertainment value (gambling excitement)
• Rebellion narrative (anti-establishment sentiment)

This behavior mirrors impulse purchasing psychology—people buy luxury goods not for utility but for the emotional experience and social signaling. But to the point of MOMO Pro's existence - you can capitalize upon these waves and profit.

The Stablecoin: Infrastructure Over Speculation

Beyond speculative tokens, there's a structural insight worth noting: stablecoin infrastructure may serve monetary policy objectives by absorbing excess liquidity in digital form rather than chasing real assets. Infrastructure plays (payment rails, financial platforms) may offer more sustainable returns than speculative assets, as they benefit from long-term adoption trends rather than sentiment cycles. So how do you differentiate – as these hyped themes like crypto treasuries, stablecoins, and quantum tend to be elusive.

Applying This Strategy: The Mometic Approach

At Mometic, we're building around the thesis of price action and volume to dictate true momentum and that understanding emotional market dynamics is no longer optional—it's essential.

The goal isn't to abandon discipline—it's to add a new dimension of market awareness. Traditional fundamental analysis tells you what an asset should be worth. Momentum analysis tells you what the market will pay for it in the near term.

While there is only a silver bullet in hindsight analysis, we provide various momentum indicators that highlight the exuberance on both short and longer term timeframes that highlight momentum strength. Keywords to review on our documentation include: MOMO Vector, MOMO Trend, Momentum indicator, and Money Flow.

A Practical Strategy for Momentum-Driven Markets

Rather than abandoning all fundamental discipline, consider a "barbell" approach. If day trading and using all of your book, this doesn't really apply, but if you have a reasonable net worth and struggle with capturing alpha, this can be rewarding.

Note: You should coordinate the tax ramifications accordingly. Your momentum trades would be best done in a tax-free account, but that is a tough decision if account size is small and the restrictions of adding funds. Weigh carefully.

Traditional Fundamentals (70-80%)

• Quality companies with technical or distribution moats
• Positive cash flows
• Reasonable valuations
• Diversification across assets

Momentum Plays (20-30%)

Study behavioral patterns by examining:

• Addiction psychology: What creates compulsive engagement? (relevant for gaming, social media, consumer brands)
• Viral mechanics: Why do certain narratives spread? (network effects, simplicity, emotional resonance)
• Crowd dynamics: When does FOMO peak? What are the early warning signs of exhaustion? Compare "real aka. future potential" vs. "meme aka. just because" narratives. The duration is different.

Examples in Traditional Markets:

• Reddit-driven stocks during social momentum
• IPOs with strong brand narratives (Airbnb, Snowflake)
• Consumer brands mastering social virality
• Growth stocks during narrative-driven rallies

Risk Management Rules

1. Position sizing: Never risk capital you can't afford to lose.
2. Exit discipline: Set clear profit goals and stops before entering. Momentum is hard to qualify and can run 10x or more. Use less of a day trading approach and more of take profits at set points and consider letting "runners run" with trailing stops to catch the last of the move.
3. Cycle awareness: Emotional trades work in risk-on environments but are among first collapse as there often isn't fundamental conviction data points (e.g. P/E of 12)
4. Time horizon: Distinguish between 10-year investments and 10-day speculations. Don't turn speculations into investments - or rather realize not every new technology turns into next Nvidia.
5. Pain management: Often times you will leave money on the table. Unless you know the technology intimately, its very difficult to have more than 5x conviction IMO. I'm now living that with quantum and to lesser extent SMR energy. Having gotten around 5x or so gains on each, to see them continue to soar can be cause some poor decisions.

Net-net

Modern momentum trading requires a compound approach - fundamental analysis for compounding wealth and behavioral finance for tactical opportunities. The most successful understand both the balance sheet and the psychology of crowds.

Warren Buffett's massive cash position may prove wise if markets correct sharply (which would have to be 62% at this point), or it may represent one of the costliest periods of underperformance in his career. Either way, it demonstrates that even the greatest value investor in history struggles when market dynamics change.

A balance is critical—it's to recognize when emotion drives price action and position accordingly. Buffett's principles still work for patient capital. But understanding why GameStop traded at $400 or why millions bought Dogecoin requires studying human nature, not accounting.

In an time of liquidity and instantaneous information, studying behavioral psychology may be as valuable as studying financial statements. The question isn't whether this is good for markets—it's whether you can adapt to the reality. Ironically enough, gold is a good illustration. Gold arguably made sense to buy years ago on the same merits which is moving it today, however, the theme didn't have hype until ~8 months ago. Having your net worth locked in for 4+ years and hoping for a move would have missed huge runs in SPY and QQQ and associated plays - particularly when it was hard to say gold was a "sure thing".

As founder of Mometic, I've been dedicated to understanding momentum psychology and market dynamics. My take isn't about being reckless —it's about coalescing the trading information available to us and trying to position to get the biggest piece of the move with the lowest amount of stress.