Steps Investors Can Take to
Avoid Emotional Investing and Its Associated Negative Aspects
If investors take financial decisions which are based on emotions then most often than not those decisions tend to be wrong. There are two basic emotions which you need to control to make proper investment decisions, these are greed and fear. If you are unable to control these emotions then they can have very detrimental effect on performance of your portfolio. In the following sections let us look at how how these emotions influence our investment decisions.
How to avoiding emotional investing?
- Step #1: Control greed
- Step #2: Control fear
Influence of Greed on Financial Decisions
Many people have the desire to build up wealth in the shortest period of time. A good example is the dotcom bubble of late 1990s where investors were eagerly buying internet related stocks. Such investment activity resulted in overpricing of securities creating the bubble which eventually burst in 2000. The greed to get rich quick can make it really hard for investors to hold onto profits and utilize a proper long term investment plan.
Key to Financial Success – Stop Emotions from Affecting Your Financial Decisions
At times of such frenzy (as was noticed during the dotcom bubble) it becomes necessary to follow advice provided by your certified financial planner as well as adhere to fundamental rules of investing. These fundamental rules consist of:
- Creation of a long term investment plan
- Not getting influenced by emotions
- Making proper use of dollar cost averaging
Warren Buffett is a good example of how to control greed. Warren stick to his long term investment plans and refused to make investment in high rising tech stocks during the dotcom bubble.
He was criticized for his decision at that time but the critics were soon silenced when the dotcom bubble burst. By not falling prey to greed, Warren succeeded in avoiding losses which other investors had to bear.
Influence of Fear on Financial Decisions
Fear is another emotion which can have negative effect on investment decisions you take. In case some of the investment products suffer significant losses over a period to time then the overall sentiment in the market becomes fearful and investors are afraid to invest any further since it may result in more losses.
Fear Can Lower the Returns You Could Possibly Earn from Your Investments
It is worth mentioning here that being fearful is as bad as being greedy and both these emotions have damaging effect on your investment decisions. Greed was the dominant emotion at the time dotcom bubble was expanding while the dominating emotion after the bubble burst was of fear. Many of the investors tried to control their losses by looking for less risky investment options such as stable value funds and money market securities. These had low risk but at the same time provided low returns.
A Final Note
To conclude we will say that you can avoid being swept by these emotions (fear and greed) by sticking to fundamentals of investing, discussing your financial position with a experienced and certified financial planner as well as utilizing a proper mix of asset allocations.