Run, fight, freeze……human behaviour and rational investing
5th February 2019
I recently attended a seminar run by investment managers Quilter Cheviot where they shared some of the lessons they have learned from 240 years of investing. Here are some of the key take-aways that I enjoyed.
With so much uncertainty in the world that’s impacting financial markets, it’s important to keep your emotions in check.
The impulse to chase the market is human nature, but studies have shown that staying invested is a far more effective approach in the long run.
Setting aside your emotions is essential for effective investing. “Timing” the market is risky, especially if you lack knowledge of underlying causes.
In the long-term, a buy and hold strategy tends to provide the most reliable returns.
One of the basics of classical economics is that people behave rationally and therefore maximise their economic potential. However, more recently a field called behavioural economics has opened up, which recognises that people are not always rational and applies psychological insights into human behaviour to explain economic decision making.
There are a whole series of behavioural biases which can influence decision making: worry, confirmation bias, loss aversion bias, familiarity bias, hindsight bias etc. For example, in confirmation bias individuals focus on information which supports their opinion while ignoring information that contradicts them.
We often see examples of these behaviours when there is a sudden drop in the value of investments. This in itself is a good reason to make use of professional financial advisers – by putting the direct day to day management of your investment in the hands of an experienced professional. You remove the temptation to react to sudden market fluctuations, hot tips or short-term changes in the value of a particular asset.
Time in the market is more important that timing in the market.
Andrew Hannay is a director of RobMac.