Most people behave in counterproductive ways when things go against them.
The Ostrich Effect
I am told that ostrich’s really do not bury their head in the sand when they are stressed, but the image is persistent. Again, while not literally true, people do the same thing.
When I was in the accounting business I found I could tell if things had become worse financially for a client without looking at the books. Record keeping tended towards chaotic or at least sloppy when things were bad. Rationally, it should have gone the other way.
Behavioural economist George Loewenstein found the same thing using records from Vanguard funds. People looked at the portfolio less frequently when the market was down.
People have psychological issues around money
People hate losing so they keep stocks that have gone down. Selling clarifies the loss and admits a mistake, I suppose. Objectivity is an important asset when investing. The market does not love you or wish you well. It is blind and deaf to your needs. You should be as objective about it.
If you keep the losers and sell the winners, you will eventually own only losers. How good would that be?
People misunderstand investments
Investments are not money. You give up money to buy them and they come with methods to turn back into money, but they are not money. Money is a store of value and is denominated in units that change only with inflation. Investments are scored in money units but they can become any number from zero to infinity, regardless of inflation.
Do not let “money” emotions attach to investment decisions. Learn investment decisions.
Understand investment risk
Investment risk is about predictability not about objective loss. Be sure your scale for predictability matches what people report as variability, the analog for risk. Variability is not necessarily about the likelihood of getting less money back some day in the future. Most variability is quoted as one-year variability. If your time horizon is 20 years other numbers will matter.
If you equate risk with loss, you will be in for a surprise. An investment that rises on average 10% a year, but the annual returns vary from -20% to +40% will be highly risky in investment terms. At the other extreme a stock that loses 5% exactly every year will show up as riskless.
The efficient market hypothesis might not be efficient
If it isn’t, investors must realize that there is no objective connection between business performance and market prices. If we are in a world where people who know nothing, or are irrational, trade with others of the same ilk, we should not expect objective outcomes. IN THE SHORT RUN.
In the long run the craziness cancels out and fundamentals dominate. The problem for most is that the long run requires patience and discipline. Small inventory of those items.
Money is not a goal
What money does could be a viable goal. Food, shelter, medical care, recreation, vacations, control, security. The list is long. Your investing life will be easier if you know what you want the money for. I would likely invest money for food in retirement differently than I would invest money for the purchase of an S-Series Mercedes. I can get along without the Mercedes, but food looks important.
Investing is mostly common sense. Buy securities that could improve in value because of their business advantages. They may pay larger dividends in future. Cash on cash yield can be quite high.
If you investment policy requires that you must outsmart your fellow investors to win, you will find that there are other smart people playing that game. Like poker, If after half an hour, you don’t know who the sucker at the table is, it’s you.
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. firstname.lastname@example.org 866-285-7772