It has been very long since the last posting due to some problems I face.
Today i will be talking about the 5 psychological traps and how to aviod them with rational decision-making.
I will only be talking 1of the traps each day, so lets get started with the 1 trap which is Fears of Regret and Loss Aversion.
According to behaviourists, most investors tend to postpone selling losing stocks in order not to finalise errors that have been made. Not to mention it always happens to me. This is due to the fear of regret and loss aversion. The fear of regret can also occur when investors miss out on a stock that appriciates in value. To avoid the possibility of feeling this regret, these investors tend to acquire only stocks that are popular. Behavioural finance experts also find that investors are much less embarrassed about losing money on favoured stocks than from losing money on an unknwon or unpopular share.
The loss-aversion theory states that people experience different degress of emotion when gains and losses are made. A loss alsways appear larger than a gain of an equivalent size and this is why investors may choose to hold on to their losing stocks and sell their winners. This is also the reason investors often take on more risks to avoid making loss, prefering to hold on onto their losing investments in the hope that the price will recover. Gamblers on a losing streak exhibit this loss-aversion tendency, doubling up bets in a bid to recoup what they had already lost.
WHAT TO DO??
Today i will be talking about the 5 psychological traps and how to aviod them with rational decision-making.
I will only be talking 1of the traps each day, so lets get started with the 1 trap which is Fears of Regret and Loss Aversion.
According to behaviourists, most investors tend to postpone selling losing stocks in order not to finalise errors that have been made. Not to mention it always happens to me. This is due to the fear of regret and loss aversion. The fear of regret can also occur when investors miss out on a stock that appriciates in value. To avoid the possibility of feeling this regret, these investors tend to acquire only stocks that are popular. Behavioural finance experts also find that investors are much less embarrassed about losing money on favoured stocks than from losing money on an unknwon or unpopular share.
The loss-aversion theory states that people experience different degress of emotion when gains and losses are made. A loss alsways appear larger than a gain of an equivalent size and this is why investors may choose to hold on to their losing stocks and sell their winners. This is also the reason investors often take on more risks to avoid making loss, prefering to hold on onto their losing investments in the hope that the price will recover. Gamblers on a losing streak exhibit this loss-aversion tendency, doubling up bets in a bid to recoup what they had already lost.
WHAT TO DO??
- As a lot of money has been lost by holding on to a stock that is not appreciating in value, investing professionals advise investors to decide ahead of time which investment should be sold if it drops to a certain level during a market correction. A sudden drop in the stock market is not the time to be sorting out your portfolio. You want to treat any pullback as an opportunity to increase holdings of your favorite stock.
- To prevent impulsive selling of securities that have made losses in order to avoid making a begger loss, investors should check if the fundamentals of the asset have changed. Advice to exit an investment, asset class or market, can be based on a market view or asset allocation reason. For example, switching the gains made by bonds to stocks tha t have not performed is to rebalanceyour portfolio. However, if bond fund have lost value due to the rising default risk, existing bonds and increasing equity exposure is due to a change in the fundamentals of the bond asset class.
- Investors should also practice setting stop-loss orders before their investments. Think about you much you can afford to lose. Be disciplined if the stocks price does depreciate and sell at the point that you have planned.
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