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Even Seasoned Investors Can Fall Prey to Their Emotions

Sep 15th, 2011

 

Making investment decisions based on emotion can kill long-term performance.  It’s very easy to get caught up in the day-to-day drama of the markets or some current crisis – it’s human nature.  The latest version of a study that’s done every year was recently released and the results once again show that average investors dramatically underperform both the market as a whole and the investments in which they are actually invested.1

Why? The list is long but the mistakes are common:  market timing; chasing short-term performance, lack of diversification, investing in fads, or otherwise abandoning their investment plan (if they even had one to begin with). 

As destructive as these behaviors are it is hard to believe that they happen every day, day in and day out. 

So what can you do to avoid these all-too-common mistakes of letting human nature take over?

Create and stick to an investment strategy and asset allocation.  At times of financial stress, do not stray from your strategy because of short-term events. 

Remain emotionally neutral toward investments.  Fear and greed are the enemies of good investment decisions.  They are difficult to resist because of our human nature, however they are the very emotions that cause investors to buy at the top of market cycles and sell at the bottom. 

Avoid getting caught up in the herd mentality that causes investors to do things like buy gold at an historic high because it’s advertised all over the place and it’s done well over the short term. 

Great investors throughout history have understood that building long-term wealth requires the ability to control one’s emotions and avoid self-destructive investor behavior.  Discipline and patience, regardless of market and economic events, are two of the best qualities and investor can have.  It can be very difficult to maintain such discipline and patience, especially during volatile times, but working with an experienced, independent advisor can be one of the best decisions an investor can make.

1 – DALBAR Study of Investor Returns

Investments involve risk, including loss of principal amount invested. The precious metals, rare coin, and rare currency markets are speculative, unregulated, and volatile, and prices for these items may rise or fall over time. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results.

Investments involve risk, including loss of principal amount invested. The precious metals, rare coin, and rare currency markets are speculative, unregulated, and volatile, and prices for these items may rise or fall over time. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results

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