Wisdom of the crowds

In the nineteenth century, the behaviour of the crowds was widely detested. “Madness is the exception in individuals but a rule in groups” said German philosopher Friedrich Nietzsche. He was echoing Charles Mackay, who, in 1841, wrote in his book Extraordinary Popular Delusions and the Madness of Crowds that “men, it has been well said, think in herds. It will be seen that they go mad in herds, while they only recover their senses slowly, and one by one”.

Such was the disdain for crowds that French writer Gustave Le Bon, appalled by the rise of democracy in the West, argued in The Crowd: A Study of the Popular Mind that crowds have an identity and a will of their own, and they often acted in ways that no one within the crowd intended. He wrote, “A crowd might be brave or cowardly or cruel, but it could never be smart”.That started changing with the turn of the century (post-1900) when a British scientist, Francis Galton, in 1906, conducted an experiment that surprised even him at the time.

At a regional fair, Galton came across a weight-judging competition. Eight hundred people tried their luck at judging the weight of an ox. It was a diverse cohort, with butchers and farmers (“experts” in this case), but many non-experts like clerks and horse-race betters also participated. Galton’s initial interest was to tabulate the results and check if they confirmed his then-pet project (now known as the bell curve).

In the process, he calculated the mean of the group’s guesses, expecting it to be way off the mark. He was wrong; the ox weighed 1,198 pounds, and the group’s guess… 1,197 pounds! He later wrote, “The result seems more creditable to the trustworthiness of a democratic judgement than might have been expected”. That was, to say the least, an understatement.

A weight-judging competition may not sound like a complex task, but this experiment was again run in May 1968, when US submarine Scorpion disappeared on its way back to Newport. Although the Navy knew the sub’s last reported location, it had no idea what had happened to it. As a result, the area where the Navy began searching was a circle 20 miles wide and many thousands of feet deep; a truly hopeless task. But as Sherry Sontag and Christopher Drew recount in their book Blind Man’s Bluff, a naval officer named John Craven had a different plan. He assembled a team with a wide range of knowledge (mathematicians, salvage men, submarine specialists, etc.).

But, instead of asking them to consult with each other, he asked each of them to offer their best guess. He then pulled the answers together and built a composite picture of how the Scorpion vanished using the Bayes theorem. The location that Craven came up with was not a spot that any individual member of the group had picked. When the navy finally found the Scorpion, it was a mere 220 yards from where Craven’s estimate said it would be. With almost no evidence and just tiny scraps of data, the group came up with the right answer.

This wisdom of the crowds has been on full display in India recently. Until a few years back, it was believed that foreign institutional investors (FIIs) are the smartest cohort operating in Indian equity markets. They own 22% of BSE-200 (as of June 2022), and mutual funds and retail own 8% each. The value of their investments has risen from just $15 billion in March 2002 to over $530 billion now.

Whereas retail ownership (including mutual funds) has fallen from 20% in March 2002 to 16% now, FII ownership has risen from 15% to 22% over the same period. Their largest ownership (by the percentage of shares outstanding) is in best-run businesses like HDFC Bank, ICICI Bank, Apollo Hospitals and Infosys; companies like Reliance, Kotak Bank and TCS also feature in the list of their top investments (by value).

More recently, however, “retail” seems to have gotten almost every cycle right. While FIIs heavily sold during the Covid-led fall in the markets, retail investors did two things: they kept their systematic investing (SIP) ongoing and took advantage of the market correction by investing over and above SIPs; a part of which was sold later during the year when the market recovered.


Even during the recent FII selloff (starting October 2021), retail investors kept putting in money. The rally over the past two months, driven by rising FII inflows, is now being sold into by retail.


Lastly, retail investors have increased allocation to exchange-traded funds (ETF) — a lower cost option (compared to actively managed funds) — to access equity markets.



The change in the belief system in the 20th century has had wide-ranging implications, starting from trial by juries (instead of a judge), for the system of democracy and markets as well. In India, the share of equity in Indian household savings is still quite low (sub-5% per some surveys).

Over the last 7 years, policy decisions taken by the Indian government have resulted in the share of organised businesses rising in the economy. That, combined with the poor performance of other asset classes (real estate, gold, bonds etc.), has meant that the interest of retail investors has risen in equities.

While that overarching change is positive, it is heartening to note how retail investors, collectively, have also emerged as the smartest cohort. The crowds, indeed, have become wise!

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