George Soros Reflexivity Theory 101

George Soros Reflexivity Theory 101
George Soros Reflexivity Theory 101
This is a Guest Post by AK of Fallible
AK has been an analyst at long/short equity investment firms, global macro funds, and corporate economics departments. He co-founded Macro Ops and is the host of Fallible.

Let’s talk about reflexivity… a theory made famous by George Soros!

Soros is the legendary hedge fund manager who infamously made a billion dollars in a single day back in 92’ by shorting the pound and “breaking the bank of England”.

Reflexivity in markets is when the act of valuing something actually affects its underlying value.

Amazon is a great example of this.

Compared to its market cap, Amazon barely made any profits most of its life.

Objectively… it wouldn’t have seemed too valuable.

But its stock price shot up year after year regardless.

And that’s because investors loved Amazon even if it didn’t make money.

The same sort of thing happened to Dwayne “The Rock” Johnson.

Objectively the Rock was a terrible actor making horrendous movies.

But people loved him anyway!

So he kept getting more and more roles!

And this is where reflexivity comes into play for both Amazon and The Rock.

For Amazon, the act of investors valuing it highly, actually helped improve its underlying fundamentals.

Everyone thinking Amazon was valuable made it a hot company.

And talented employees want to work at hot companies.

And the more talented employees you have, the better your company performs.

Plus, with the stock price rising higher and higher, financing kept getting cheaper for Amazon.

So they could take that easy money and just shovel it back into their growth.

With these advantages, over time, Amazon did objectively become more valuable.

For The Rock, people loving him and wanting to see his movies actually helped improve his acting.

The more popular he became, the more roles he got.

The more roles he got, the more he learned and improved.

Both Amazon and The Rock took advantage of people’s premature positive believes to objectively become more valuable.

And the crazy part is, as people saw them becoming more valuable, they egged them even on more!

Investors bought MORE Amazon stock, sending its price EVEN higher, increasing its value yet again.

The Rock got MORE popular and started getting even MORE TV shows and movies.

His acting kept improving and last year he became the highest paid actor in the world!

His value went through the roof!

You can see how these powerful reflexive feedback loops form…

People start valuing something highly, and that initial belief helps it objectively become more valuable, which in turn convinces those same people to value it even higher than before.

Understanding reflexivity will help you identify these feedback loops in the market.

And that’s where you can make a ton of money.

If you liked this explanation, make sure you subscribe the Fallible YouTube channel here. Let us know what videos you want to see next in the comments!