Behavioural Finance

Andrew Mobsby, Cape Town SA, Head Product Structuring

When it comes to our money, most of us like to think that we are rational creatures. We believe that we make decisions based on the facts and figures in front of us and that we would never let our emotions get in the way of making a sound financial decision. However, as any behavioural economist will tell you, this is not always the case. In fact, our emotions often have a huge impact on our investment decisions – and can often lead us astray. In this blog post, we will take a look at some of the most common emotional biases that investors fall prey to and discuss how they can affect your portfolio.

One of the most common emotional biases is known as mental accounting. This is when we assign different values to money depending on where it came from, or how we plan to use it. For example, you may be more likely to spend money that you have earned from overtime at work, than money that you have been saving for a rainy day. This can lead to us making sub-optimal investment decisions, as we are not always thinking about our money in the same way.

Another common bias is herd mentality or following the crowd. When there is volatility in the markets, it can be easy to get caught up in the hype and make rash decisions based on what everyone else is doing. However, this is often a recipe for disaster, as the markets can move in unexpected ways. It is important to remember that you are the only one who is responsible for your investment decisions, and you should not let yourself be swayed by what others are doing.

Loss aversion is another emotional bias that can have a big impact on your investment decisions. This is the tendency to avoid losses at all costs, even if it means missing out on potential gains. For example, you may be reluctant to sell a losing stock in the hope that it will eventually rebound. However, this can often lead to further losses, as you are hanging on to an asset that is not performing well. It is important to remember that losses are a part of investing, and you should not let them dissuade you from making sound decisions.

The gambler’s fallacy is another emotional bias that can lead to sub-optimal investment decisions. This is the belief that if something has happened a lot in the past, it is less likely to happen in the future. For example, you may believe that because a stock has gone down for the past few days, it is due for a rebound. However, this is not always the case, and you should not base your investment decisions on this kind of thinking.

The choice paradox is another common emotional bias that investors face. This is when we are presented with too many choices and have difficulty making a decision as a result. For example, you may find yourself paralysis-by-analysis when looking at different investment options. This can lead to you making sub-optimal decisions, as you are not able to focus on the most important factors. It is important to remember that less is often more when it comes to making investment decisions.

Finally, anchoring bias is an emotional bias that can have a big impact on your investment decisions. This is when we base our decision on a single piece of information and fail to take other factors into account. For example, you may anchor on the price of a stock, and fail to consider its fundamental value. This can lead to you overpaying for an asset or missing out on potential gains. It is important to remember that there are many factors to consider when making investment decisions, and you should not let yourself be anchored by one piece of information.

These are just some of the most common emotional biases that investors face. It is important to be aware of these biases, and how they can impact your investment decisions. However, it is also important to remember that you are the only one who is responsible for your investment decisions. You should not let yourself be swayed by emotions and should always make sure that you are thinking about your money in a rational way.

There you have it! These are just some of the most common emotional biases that investors face. Be sure to keep them in mind when making any future investment decisions, as they could end up having a big impact on your portfolio. Thanks for reading.

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