10 Of The Most Powerful Strategies For Overcoming The Psychology Of Investing
Overcoming the psychology of investing during a turbulent market is a skillset that can takes years to refine. While investing for the long term in and of itself can appear relatively straightforward, having the determination to hold onto your investments during times of economic decline can test the resolve of even the most seasoned investors. We interviewed 10 entrepreneurs and asked them how they have overcome the psychology of the stock market while investing in their business, and now share their strategies with you.
In order to properly deal with the psychology of investing, one must first know themselves – how do you behave or react around making financial decisions? Are you a saver or spender? What is your tolerance for taking on risk?
Buy low and sell high makes perfect sense, until you factor in emotional reactions to market events. Some people get excited when the market tanks – they see it as an opportunity to invest. Others become fearful as the market increases – they’re worried the bottom could fall out any minute. And then there are the hard-wired, intrinsic behavioral biases that affect us all. These blind spots affect our ability to make logical decisions, or give the best advise to others whom we coach.
So becoming self-aware is key. And there are several Behavioral Finance tools that provide key insights to maneuvering investment decisions, and avoiding the pitfalls of our own behavioral biases that can sabotage our ability to achieve our goals. Understanding your propensity to manage risk, mitigating our struggles with behavioral biases and generally being more mindful of who we are, our goals, and how to achieve them will go far in managing the psychology of investing in the stock market.
Human nature has most investors wired to make poor investment choices. We like to buy when we feel good about the stock market, which is usually when it has been on a protracted advance. And we sell when the market has been falling and we reach that point where we just can’t take seeing our investment accounts drop in value anymore. As a result, we are buying when we should be taking profits and selling when we should be buying.
So how do we manage this predisposition to make the wrong choices? First, you must eliminate the emotion of trading as much as possible, by making your investment decisions more rules-based. By rules based, I mean for example: if my stock hits this target, I will take profit or if my stock drops below this level, I will sell. Of course, these rules need to make sense from a technical perspective and the reward you are seeking needs to be higher than the risk you are taking.
A general knowledge of technical analysis will help with this in that there are numerous tools that it provides that can be used to formulate a more mechanical investment strategy. Technical analysis employs models and trading rules based on price and volume transformations, such as the relative strength index, moving averages, regressions, inter-market and intra-market price correlations, business cycles, stock market cycles, and through the recognition of chart patterns.
In my opinion, the more you learn about technical analysis, the easier it will be to formulate an investment strategy that revolves around logic and putting the odds in your favor.
Everguide Financial Group
The Psychology of investing is the most counterintuitive and frustrating part of investing. As a professional investor this is the hardest part to master. The reason it is difficult is because your actions and trades do better when you do the opposite of your feelings.
The natural inclination of someone is to sell when things are going down and buy when things are going up. The reason is ingrained in one of our most powerful emotions which is fear. When investments are going down there is a fear of losing everything and when it goes up there is a fear of missing out.
Over my career the best trades and investments I have made, felt that absolute worst at the time. The reason is because I sold when things looked great and bought when things looked terrible.
Investing in the stock market requires a profound understanding of risk assessment. However, a successful investor doesn’t just evaluate potential volatility, they should also be able to gauge how specific risks hinder their objectivity. Risk-taking is a natural human tendency and has the capacity to lead to great rewards. On the other hand, it can also lead to countless dollars being lost. Yet, there is something so inherently tempting about gambling that often drives buying and selling on the exchange. In fact, many psychologists recognize this impulse to be borderline addictive. That being the case, investors need to ensure they are perceiving risks for how they truly are, not how they may be hardwired to think.
Conversely, humans have a tendency to rely heavily on their cognitive biases. For instance, many investors can be seen anchoring, or depending solely on one metric, instead of seeing the big picture. Similarly, the all-too-common pseudo-certainty effect triggers investors to make risky choices to avoid absorbing a loss. At the end of the day, risk and intuition play major roles in investing in the stock market. Although you may come out on top, it’s vital that you take the necessary steps to remain objective and understand the importance of risk management.
Financial Freedom Wealth Management Group
When you’re investing on your own and don’t have professional guidance, it’s easy to let emotions of greed and fear take over your decisions. Doubt and negative self-talk can ruin your decisions about money and investments. Knowing some basics of investing can help to limit these doubts and fears.
One thing to know if you are investing for the long term is that staying the course by staying invested is always the best option. Letting your emotions get in the way by continuously trying to decide when to invest, when to buy, and when to sell is a losing game.
Another tip to minimize doubts and fears when investing is to minimize risks. If you are investing for the long term, you should choose investments with a history of success. If you are investing for the mid-term, you may want to take some risks in your portfolio, but you should always think about how you can minimize risks.
One strategy to minimize risks and help overcome the fears and doubts of investing is to diversify your investments and never invest in only one stock or even one asset class.
Finally, if you feel unable to overcome the psychological fears and doubts of investing on your own, consider seeking professional guidance from a financial adivsor who has the experience to know which investments have a history of success and the risk levels that are appropriate.
Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual. Past performance does not guarantee future results. No strategy assures success or protects against loss. Investing involves risk including loss of principal. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.
Securities and advisory services offered through LPL Financial, a registered investment advisor, member FINRA/SIPC.
Trading can make you crazy, and at the very least it can be stressful. Given the ups, downs, and times between spent in limbo, investing in the stock market requires a definite passion. Whether day trading is right for you is a personal decision but as I’ve stuck with it, I’ve been able to build a trading style that works for me. I’ve found that sticking to a well-thought-out plan and relying on routine helps me regulate the pressures of each day, ensuring I feel like I’m headed for a routine trip to the office instead of straight for a stressful situation. For me, that routine revolves around physical and mental health and nutrition – most importantly hydration, movement and meditation. Additionally, you can seek out communities like the one we offer via Simpler Trading so that you aren’t completely on your own. Our team trades with our own funds each day in front of members, sharing strategies and trainings that fit all learning styles and formats, from webinars to direct coaching and interactive chat rooms, to mobile solutions.
Money Smart Guides
One of the biggest psychological issues investors face is holding on too long to losing investments. They rationalize in their mind that the investment will come back and earn them money. While this may be true, you have no idea how long this may take. You are better off cutting your losses and investing in something else instead.
How do you do this? Create a floor when you buy an investment for when to sell it. A good rule of thumb to use is 10%. For example, if the investment drops in value by 10% from the price you bought it, cut your losses, sell and buy something else.
Doing this will help you to avoid riding a losing stock down further and losing you even more money. Additionally, it will stop you from pouring more money into an investment and risking even more of your hard earned money.
Finally, it will allow you to invest your money in another company, mutual fund, exchange traded fund, etc. that is going to earn you a positive return on your money.
One caveat to this is if the market as a whole is experiencing a decline. For example, a terrorist attack or some other shock to the markets. In this case, you do not need to sell out if your investment drops by 10% or more. But if your investment alone drops by 10% or more, it is time to sell.
Understanding what the stock market actually represents will help you avoid irrational decisions like selling during a market panic. Most people don’t realize that when you own equity, you are an owner of a percentage of a real company making real profits. So if that company’s stock goes down 20% overnight, it usually doesn’t represent anything other than a market overreaction.
Buying index funds will alleviate most casual investor’s concerns about the market crashing. If you own one stock, that company might go bankrupt and you would lose most of your money. But if you own an index fund, you own a small percentage of all of the biggest companies. And there’s no chance that every company goes bankrupt at once.
Most investors need to change their mindset and realize that when the stock market is crashing, that’s the best time to buy if you have a long-term investing horizon. The stock market will always go up in the future, because stocks are a claim on real assets and companies will continue to make more money each year due to inflation.
Many investors allow their emotions to get the best of them when it comes to investing in the stock market and this is where most investors get it wrong. The simple notion of buy low sell high is what many of us strive for and it makes sense. So many of us buy high and sell low, because of the inherent nature of human emotion. To combat that we must take the emotion out of investing. It’s far too easy to hear about a hot stock tip and act upon it only to find out it’s a lemon or when you purchased it was at the height of the price.
Conversely, when things start to slip investors get worried and sell off investments sometimes at a loss. If you find yourself constantly losing money in the stock market you aren’t doing it right. Instead of purchasing individual stocks that require you to make decisions on whether or not the company is performing well look to a well-diversified Index or Exchange Traded Fund. Purchasing these decreases your risk and takes the decision making out of picking stocks. In addition, instead of trying to time the market put a few hundred dollars away each month to purchase new units of these funds. This will allow you to get an average price and takes the risk of timing the market out of the equation. When you take the emotion and decision making out of the equation you lower your risk and increase your return!
Investing in the stock market comes with a great deal of emotion as investors each have a very different relationship with money. In any case, the key to dealing with clients along the anxiety continuum is education. We spend endless hours during onboarding on investor education, especially focusing on asset allocation. At first it may seem like overkill, but when the stock market is going through dips and peaks, investors have an AHA moment appreciating the time spent when they realize they truly understand why their portfolio value is moving around so much. Not everyone is built to be an investing guru, however it is a good rule of thumb to never invest in anything you do not understand.
I previously mentioned what we call the anxiety continuum. This is the spectrum of investors who range from extremely nervous, to the opposite being those without fear who refuse to accept that the market can indeed go down….and fast. The reason for calling this range the anxiety continuum is that even the fearless have some form of anxiety surrounding their relationship with money; somewhere internally there is a reason for that aggression for performance. As advisors and fiduciaries, it is our job to identify these anxieties at their roots and build portfolios to accommodate the investor’s true risk tolerance; it is not prudent to act on the impression given at first glance as the psychology of the investor has not yet had a chance to surface.
The average individual is faced with at least 12 financial decisions per day, and a myriad of other personal and professional choices. In short, we cannot expect them to remember everything they have learned about investing, especially during times of volatility when knee-jerk reactions champion emotions. To deal with the psychology of investing in the stock market, both the investor and the advisor need to take a healthy pause to refocus perspective, revisit the respect for the investor’s relationship with money, and be reminded of the purpose of their asset allocation.