Are you the greatest threat to your investments?
You might be.
Human behaviour is fascinating. Although we would like to be strictly rational when making decisions about investments, many of us may know, or suspect, that cognitive bias can have a significant influence.
Often the difference between an investment return a person gets and should get is related to human behaviour and cognitive biases. Selling out early, at the wrong time or not staying invested for the long term all (potentially) can be a function of human behaviour.
Many investors understand that you should buy low and sell high (or hold on for the ride), so why then do a substantial number do the exact opposite?
What can you do to not fall victim to the same psychological pattern?
Positive psychology lecturer, Harvard graduate and author Shawn Achor makes some very interesting and relevant points.
Achor suggests that we are all operating with a ‘duelling’ brain, which on the one hand has a knee-jerk emotional system (referred to as the ‘jerk’ and based on the ‘flight or fight’ part of the brain) and on the other, a rational cognitive system (referred to as the ‘thinker’).
During our daily lives, our actions are often determined by these two forces, the jerk and the thinker. Most daily challenges are better served by the thinker.
However, when we are feeling particularly stressed and overwhelmed, the chance that you are being ruled by the jerk is at its highest. This has relevance to your investments and investor behaviour when markets and conditions are at their most intense. Our very cognitive patterns may take us dangerously close to making investment mistakes.
When we sell our investments at exactly the wrong time, get seduced by the mainstream thinking of the day (which may distract you from making a sound, prudent decision), or simply don’t stay invested, our own behavioural and cognitive biases are at play. Herein lies the problem.
Here is what you can do about it:
- Self-awareness: be aware of what you are feeling, what is happening in your mind and body when you are thinking to make an investment decision. Even more so at times of stress (negative markets) and times where ‘everyone is winning’ (overly positive investment markets). For some, outsourcing investment decisions to experienced professional investment managers can be a good idea.
- Quality questions: Ask yourself high quality questions before you act. Why am I choosing to take this action? Is it supporting my big picture objectives? What cognitive bias am I displaying right now? What is the mainstream thinking of the day and is this having too significant a bearing on my decision? Could the mainstream thinking be wrong? Am I looking to act because of the ‘jerk’ or because of the ‘thinker’ and is my decision based on sound reasoning?
- Think long-term: Realise that investments work in market cycles, both up and down and investment thinking should generally be much longer term than most people employ. Think 5, 10, 20 years ahead, not 1 or 2 years.
- Seek trusted quality advice. Ever noticed how it is easier to see clearly your best friend’s relationship issues and what they should do, rather than your own? The same applies with investments and long term financial planning: when you are yourself ‘at the coal face’ you may not be able to see the big picture as clearly as you should, as ‘the fire’ is dominating your perspective. There are important reasons why seeking trusted, quality advice can make a positive difference to you.
We welcome the opportunity to discuss this and other topics with you in person.
We human beings are intelligent, but often exhibit behaviour that, in times of panic, will prove sub-optimal. As Shawn Achor puts it ‘common sense is not common action’.
I hope that you can use the thoughts in this article to improve future money related decision making in your life.
May you experience an abundance of prosperity.
Reference: ‘The Happiness Advantage’ by Shawn Achor, pages 132-136.
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The views expressed in this article are solely those of the author; they are not reflective or indicative of Millennium3 Financial service’s position and are not to be attributed to Millennium3. They cannot be reproduced in any form without the express written consent of the author.
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