Emotions and Rational Investing
If you had to summarize how investors are reacting to this difficult market, it would be myopic and scared. Such human emotions cause investors to lose sight of the long term nature of their equity investments and the success disciplined investing provides. Recognizing the following human tendencies can help you make more informed and successful investing choices.
- Individuals are strongly motivated to avoid a loss.
- Investors become short sighted in difficult markets.
- Investors would rather avoid a loss despite the probability of a profit.
- When evaluating investments, individuals use their purchase price as an anchor, even though analysis might show the asset was overvalued at purchase.
- Following impulses in response to market news may satisfy the urge to act, but frequent trading typically doesn’t correlate with long term success.
The key to rational investing is reducing the opportunity for human impulses. To guard against making emotional investment decisions, investors can adopt the following strategies that may help minimize impulsive actions and potentially increase portfolio returns.
- Allocate properly. Having an investment mix that realistically reflects your goals and time horizon-rather than jumping from one investment to another to chase gains and avoid losses-can maintain the greatest exposure to potential gains.
- If you have the ability, invest regularly. Market timing is an inexact science, at best. That’s why it’s a good idea to invest the same amount on a regular basis. Doing so means investors buy more shares when prices are low and less when high.
- Avoid information overload. A constant stream of financial news can trigger the human bias toward action-regardless of whether that action is beneficial or not. The daily news bites are just noise when looked at in the context of a long term investment strategy.
- Rebalance periodically. Because markets are constantly changing, investor may want to revisit their asset allocation from time to time and rebalancing, to return to their original targets.
Today’s uncertain environment implies market volatility could remain high for some time. There will likely be some bumps and surprises before we can completely put the recession behind us. A steady, disciplined investment strategy can help you avoid acting impulsively. By adhering to proper asset allocations and keeping your investment time horizon in focus, rather than jumping from investment to investment to chase gains and avoid losses, you can maintain the greatest exposure to potential long term growth.
Thanks again for your continued confidence in Shapiro Asset Management.