March 13, 2019

Smart Investing – behaviour and Wealth

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Every so often I meet a personal investor who will tell me that now is the right time or the wrong time to invest. This may depend on whether the markets are going up or down as well as depending on that individual’s past experience.  Despite having 30 years of investment experience I never get into an argument with them because I know something they don’t. Namely, very, very experienced investment professionals rarely, if ever, out-think the markets. Even the greats such as Warren Buffet and Anthony Bolton acknowledge that markets cannot be outguessed. Whether short term or long, their own success owes more to long term holdings rather than short term trading outlooks. So what is smart investing and its traits?

Behavioural Finance and Biases

In any event, I have seen many people who are inexperienced in dealing with investment markets (and even some who are experienced) tend to look for signs that they are right. This is done in my perspective on what is happening at any point in time. They look for reassurance about what they are thinking. Hoping for confirmation by one or more public facts about the markets. In Behavioural Finance terms this is referred to as Confirmation Bias. Put simply, people favour information that confirms their beliefs or hypotheses. This is even if such confirmations turn out later to be false indicators.

Investing Biases

This behaviour is also closely linked with Herd Mentality. In essence, I have seen that this is where people are influenced by their peers by adopting certain behaviours. These behaviours follow trends as well as possibly purchasing items. As you may know, Investment history is riddled with Herd Mentality events from Tulipmania in 1637 through to recent times. The global property bubbles made many seem smart before looking extremely foolish.

Newness Bias is also a well documented behavioural trait and is the desire to give more weight to recent information and ideas usually to support a particular investment outlook. This helps to support the belief that one is right because the latest set of economic data says so. Does this sound familiar?

The use of these three outlooks on investing works both ways. If markets are going upwards, this is used to justify why one should invest. Similarly, if markets are going in the opposite direction they are likewise used as justification as to why one should not invest in particular assets. It just depends on your starting position. As I have shown, what is presumed as smart investing may be the opposite.

Can you outguess the investment markets?

So the question is, if one cannot outguess the markets what should you do?

The starting point for all investing lies not in what markets are doing but in what you actually need in your own personal life. By defining what our own individual  objectives are we can then set about expressing these in financial terms. Of course, such planning is not a simple process and requires a lot of thought. Once this whole area is addressed properly investment decisions and their long term effects become more realistic in my opinion. I can attest that this applies to the evaluation of competing investment options.

Long-Term Investment Planning

After that it comes down to long term planning, and not short term reactions to investment flavours of the month. The great thing about such an approach is it allows investors to exert control over their financial outlooks. In other words by controlling what we can control, namely our behaviour, we can have a disproportionate positive effect on our financial wellbeing. This isn’t just my view or any recent perspective. As far back as 2000 Meir Statman, a distinguished economics professor based in Santa Clara University in California, produced research which showed that 93% of investor returns are influenced by their own personal decisions and not those of individual fund managers or indeed the performance of investment markets

So how should Investors Behave?

The bottom line? Before you make a decision to jump in and out of markets, think about what your investment objectives are. Do they align to your, correct, asset allocation. If there is a mismatch then the issue isn’t markets but is more personal. And for that you need to be aware of your own behavioural impulses as these influence your financial position more than anything else.

Smart investing and behavioural biases have more in common than you may think.

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