April 18, 2017
Your Money, Your Behavior
Researchers have made a number of interesting observations in this field over the years. They have thoroughly documented each and proposed that the below can be used as indicators of future behavior. You have probably seen these in your own life – you have a friend who analyzes every decision to death (so much so that you do not ask him/her to decide where to go to dinner), another friend knows everything with little or no facts, and a third is never wrong.
As we give you information regarding this topic, we will focus on two aspects. One is to help you identify some of this behavior so that you can recognize and understand it in your life and the life of others. Secondly, we will outline some applications to help you from making mistakes.
Today, I will look at five behaviors that we have seen in our firm over the years and try to help you identify the issues with each.
1) People believe what they want to believe. The technical term is “confirmation bias.” People have a tendency to ignore bad investment news and analysis, even when their money is at stake. The insanity escalates when they utilize completely useless and irrelevant information to support the decision they want to make. Successful investors know how to look at things objectively and refrain from being overly optimistic or fearful when making a decision.
2) Not all dollars are treated equally. Most people would think that a dollar is a dollar no matter how you spin it. According to some theories and observations, this isn’t the way most people behave. People actually tend to place more value on a penny they’ve earned than three they could save. In addition, money that is inherited or received through lottery winnings is often spent less frugally than money that the beneficiary would otherwise work hard for. Wise people manage their money the same regardless of where it comes from. They also work just as hard at saving money in taxes as they do earning it.
3) Investors are more motivated by the fear of loss than the rewards of successful investing. Investors put their money into assets to make money. Interestingly, once they have invested, the fear of losing their money seems to dominate their decisions. Investors will often hold onto a losing asset out of pride. Even when the asset continues to decline in value, they refuse to admit they made a poor investing decision and cling to it, hoping they can get their money back. This usually does not happen and they end up incurring even greater losses.
4) Detailed descriptions have greater influence on investors than boring, but more relevant facts. People are often more influenced by a ten-page report with fancy graphics than a set of facts. The few pieces of data may be more relevant and beneficial in making a decision, but lengthy and engaging reports seem to have a stronger effect on many people. This is even the case when they are not looking for anything in particular.
5) Investors are often overconfident when they have small amounts of information. Rationally, you would assume that investors would be less confident when less information was available to them. Unfortunately, they have historically been easily assured by good news. When the stock market performed well, they believed that it was possible to make a lot of money with little work.
Keep an eye out for future installments from Jeff and Thad!
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