Emotions Add Little To Investing Success

We are emotional beings.  That is good for many things, but is decidedly not so good for investment decisions.  We don’t mean to be emotional, but our wiring allows feelings to overwhelm logic. 

Daniel Kahneman and Amos Taversky created a field known as “Behavioural Economics.”  It points out that humans are not fully rational. They rely on simple rules, experiences and feelings to reach conclusions.  One observation is people are about twice as unhappy over a bad result as they are happy with a good outcome of the same size.

That has a portfolio implication.  People look to often.

Suppose I like to remain stable in my feelings.  If I look every day, I would need to see up twice for every down.  It averages out that way.  Unpleasantly, the world does not.

From 2002 to 2012 an investor in Apple enjoyed a return of about 60 times his money.  Terrific! How many held it that long?  Only the ones who did not look every day.

In that 10 year period, Apple on average in each 100 days,  Apple was up 52 days and down 48.  Not close to the two to one favouring up standard.  As Apple rose, it would be easy to take a gain, avoid the down days, and miss the long run.

If you must look, there is a way to think about it that may get you away from the emotion.

Ask yourself a question:

“Knowing what I know about this business and its history, would I buy at this price?”

If the answer is “Yes” then it is okay to hold on for another day.  If the answer is “No”, you should sell.  Hold is the same thing as buy.  If I buy or hold, I am choosing the stock over the money.  If I sell, I choose the money over the stock. Hold is the unthinking default position.  Decide which condition you prefer.  Money or stock.  Don’t forget taxes and trading costs.

This is like the people who wear an elastic on their wrist to snap them back to their objective state of mind.  The question forces you to look at fundamentals and ignore feelings.  That makes it worthwhile.

Don Shaughnessy arranges life insurance for people who understand the value of a life insured estate. He can be reached at The Protectors Group, a large insurance, employee benefits, and investment agency in Peterborough, Ontario.  In previous careers, he has been a partner in a large international public accounting firm, CEO of a software start-up, a partner in an energy management system importer, and briefly in the restaurant business.

Please be in touch if I can help you.  don@moneyfyi.com  866-285-7772

 

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