When do we make our most painful mistakes?
Illustration: Mohamed Hassan. Source: Pixabay
Most of our biggest investment errors can be linked to charged emotions. We know what our most common mistakes are: overconfidence, loss-aversion, confirmation bias, selective data, and so on. What’s not well-studied is what makes us subject to these cognitive errors. A major factor is our emotions; whether we’re really happy or unbearably sad, getting emotional with money rarely ends well.
This is more easily said than done. When an investment works well, there’s a rush of pride and it’s easy to give ourselves a virtual high-five. Conversely, falling prices often cause us to seethe with frustration and go through the five stages of grief: denial, anger, depression, and so on. Losses make us depressed which leads to more emotional decisions which make us more depressed: a self-reinforcing feedback loop of doom. Some investors have even documented when they invested for revenge, or to get back to even, or just to prove that they were right. These are terrible reasons to put money to work.
We don’t have to be Mr. Spock, with no emotions at all. It pays to be passionate about our pursuits. When we invest, this can get us to do more research or gain a deeper understanding of a market or understand our own needs and limitations better. But money has no loyalty, and our goal should be to make a critical yet honest assessment of our own financial landscape. Getting “stoked” may help an athlete, but it doesn’t do our wallets any good.
Keeping our emotions under control can help us avoid the most common investment pitfalls. It’s one more reason why the first rule of investing is to understand ourselves.
Douglas R. Tengdin, CFA
Charter Trust Company
“The Best Trust Company in New England”