As a financial adviser, one of the first topics we always discuss with new clients is their financial and emotional tolerance for risk. It is equally as important that we understand their emotional comfort level with investing, as we do their financial capacity to take risk with their money.
Do you recognize what role your emotions play in your financial life? Are your decisions swayed by fear, greed, confidence, and regret?
Some investors fall victim to greed, while others who experience a loss may succumb to fear and anxiety. Everyone wants to make quick money, but when prices begin to move against an investor, fear or anxiety can undermine rational thinking. Some people become emotionally paralyzed and are unable to think rationally while losses pile up.
This fear of losing too much too soon can also make one jump out of the market too early. With extreme fear of loss, an investor might resort to irrational ways to overcome the anxiety which commonly leads to the exact opposite of what all investors should do, “buy low and sell high”.
During times of volatile investment markets, ironically, some of the best opportunities emerge as the market gets close to the bottom, not when we feel the emotional rush of excitement when a market is on fire with golden promise and opportunity!
How to get your emotions under control
To succeed in investing, you’ve got to learn the skills to manage yourself and your emotions.
Emotional neutrality is the key. You should only invest for logical, rational reasons, and never, for example, because your colleagues or relatives are buying in droves and making money right now. Most important but hard to follow: make sure that you do not get carried away with the crowd.
A lot has been written about crowd behavior in the investment industry, but more attention is being paid to the phenomena of emotional contagion. As the term suggests, people can infect each other behaviorally. And, in investment matters, this can cost everyone a lot of money (remember the technology bubble of the late 1990’s and more recently the housing bubble of the mid-2000's)?
Beware of contagion