Market observers long have detected that investment decisions have an emotional component.
Behavioral finance scholars have produced a series of studies that point out mistakes investors tend to make in managing their portfolios. Because it is basic human psychology that is behind their actions, even experienced investors are likely to make these mistakes.
Research by psychologists suggests most individuals feel twice the pain over a financial loss as they do the pleasure of an equivalent gain.
Most people don't have the time or inclination to delve deeply into the field of behavioral finance. But they can look inward and examine how they have reacted to recent to recent events. Here are the more common emotional reactions:
• Failing to act or procrastinating does allow one to avoid unpleasant thought, but, ultimately, it provides no solutions.
• Hitting the panic button can lead an investor to follow dubious advice or to chase the latest trend without any sound reason.
• Holding on too long to one's investments, even when it seems logical to let go, is such a common emotion that psychotherapists have given it a name, "divestiture anxiety."
• Loss of self-esteem, says John Jacobs, a New York psychologist with expertise in wealth issues, makes it possible for an individual's feelings of worth to "rise and fall with the Nasdaq or Dow."
Take a rational approach
If you see your own reactions in any of those described above, it's time to review your portfolio to turn some of the negative emotions into positive action.
1. Be clear about what you are doing. Can you easily summarize your investment strategy on paper? It's the foundation upon which your portfolio will be built. Your portfolio should reflect who you are; your goals, investing time frame and tolerance for risk. Developing and articulating your strategy will help you from making changes to it solely based upon how the market rises and fall.
2. Use the right tools to help you find success. Asset allocation -- spreading your dollars among the basic investment categories, among stocks, bonds and cash equivalents -- is an organized, systematic approach to building and maintaining a portfolio. Diversifying your holding within each asset class is important as well. For instance, within the equity portion of your portfolio, you may want to consider large-, mid- or small-capitalization stocks. Choose a mix of stocks that yield dividends and those that are growth stocks with little likelihood of significant dividends. You may want to take a look at investing in the equities of companies outside of the U.S.
3. Be vigilant. Review your investment choices regularly and make the necessary adjustments accordingly. You may need to rebalance your portfolio if it exceeds the original allocation target that you have set. Family and personal circumstances also may dictate that you review your investment strategy.
4. Don't go it alone. The daily market reports that you read or hear notwithstanding, there are opportunities to be found out there. We can help you find them. Think of us as a valuable resource for unbiased, objective financial advice. As a partner who can help you to formulate an investment strategy that incorporates both your long- and short-term goals, tailored specifically to your needs and concerns.
Sills is a first vice president of The Heritage Bank and head of its financial services.
Behavioral finance scholars have produced a series of studies that point out mistakes investors tend to make in managing their portfolios. Because it is basic human psychology that is behind their actions, even experienced investors are likely to make these mistakes.
Research by psychologists suggests most individuals feel twice the pain over a financial loss as they do the pleasure of an equivalent gain.
Most people don't have the time or inclination to delve deeply into the field of behavioral finance. But they can look inward and examine how they have reacted to recent to recent events. Here are the more common emotional reactions:
• Failing to act or procrastinating does allow one to avoid unpleasant thought, but, ultimately, it provides no solutions.
• Hitting the panic button can lead an investor to follow dubious advice or to chase the latest trend without any sound reason.
• Holding on too long to one's investments, even when it seems logical to let go, is such a common emotion that psychotherapists have given it a name, "divestiture anxiety."
• Loss of self-esteem, says John Jacobs, a New York psychologist with expertise in wealth issues, makes it possible for an individual's feelings of worth to "rise and fall with the Nasdaq or Dow."
Take a rational approach
If you see your own reactions in any of those described above, it's time to review your portfolio to turn some of the negative emotions into positive action.
1. Be clear about what you are doing. Can you easily summarize your investment strategy on paper? It's the foundation upon which your portfolio will be built. Your portfolio should reflect who you are; your goals, investing time frame and tolerance for risk. Developing and articulating your strategy will help you from making changes to it solely based upon how the market rises and fall.
2. Use the right tools to help you find success. Asset allocation -- spreading your dollars among the basic investment categories, among stocks, bonds and cash equivalents -- is an organized, systematic approach to building and maintaining a portfolio. Diversifying your holding within each asset class is important as well. For instance, within the equity portion of your portfolio, you may want to consider large-, mid- or small-capitalization stocks. Choose a mix of stocks that yield dividends and those that are growth stocks with little likelihood of significant dividends. You may want to take a look at investing in the equities of companies outside of the U.S.
3. Be vigilant. Review your investment choices regularly and make the necessary adjustments accordingly. You may need to rebalance your portfolio if it exceeds the original allocation target that you have set. Family and personal circumstances also may dictate that you review your investment strategy.
4. Don't go it alone. The daily market reports that you read or hear notwithstanding, there are opportunities to be found out there. We can help you find them. Think of us as a valuable resource for unbiased, objective financial advice. As a partner who can help you to formulate an investment strategy that incorporates both your long- and short-term goals, tailored specifically to your needs and concerns.
Sills is a first vice president of The Heritage Bank and head of its financial services.