May 11, 2020
Times of crisis can create great stress for investors and lead to poor decision-making with your investments. Many investors have fallen victim to panic selling, buying at the wrong time or missing opportunities altogether, and it’s often a result of their emotions.
Emotional investors can severely damage and derail their wealth plans by making rash and costly mistakes.
While it may seem difficult, you can manage your emotions in a crisis and take rational steps towards your investment strategy. Here's how.
Rational investors vs emotional investors
The biggest difference between rational and emotional investors is their ‘big picture’ approach to their investment strategy. Rational investors understand that investments are for the long-term and will be subject to market volatility, and they will therefore stick to their strategy.
However, emotional investors will often lose sight of the big picture and react to short-term market performances and media commentary. This opens the door to poor decisions.
The emotions investors face
There are three key emotions that investors experience, especially in a financial crisis – fear, greed and frustration (or impatience).
Fear can plague your investment strategy in two ways: by pressuring you to make panicked changes or creating paralysis. When a crisis hits and stocks plummet, too many investors panic and offload their investments. However, this action will only result in you selling cheap and losing potential future gains. Investors can also miss out on potential wealth building by becoming paralysed and avoiding great opportunities for fear of the risks involved.
Investors who are influenced by greed have a ‘get rich quick’ mentality that will often mean following trends late and buying when prices are high. The downfall of this strategy is that investors can miss great opportunities in the early stages of a market upturn.
Finally, frustration and impatience can lead to investors selling off investments early due to their seemingly ‘poor’ performance, only to miss out on a later surge and wealth gain opportunity.
How to manage your emotions
Shift your mindset
Before anything else, you need to take control of your mindset and focus on the bigger picture. Transitioning from emotional investing to rational investing means steering away from dwelling on daily fluctuations and viewing your investments as long-term assets that will help you achieve your long-term financial and lifestyle goals.
Get the facts about your situation
Understand truly where you are at financially. You’ll find that your situation probably isn’t as bad as you think. Simply taking stock will ease your emotions.
Get the facts about the market
Understand what the real truth is about the state of the market. Emotional investors will often tend to react based on the responses from media hype or ‘arm-chair experts’, or even well-intentioned family and friends. Ensure you are seeking advice from professional experts.
Reduce media consumption
Following on from our previous point, try to reduce consumption of both mainstream media and social media. A financial crisis is fodder for media that typically fuels fear and elicits other negative emotions from vulnerable investors, with breaking news and headlines that me be half-truths, opinion or out of context.
Alternatively, if reducing your media consumption isn’t possible, turn to trustworthy and objective sources who present accurate information and data.
Avoid the 'herd mentality'
Emotional investors can often fall trap to the ‘herd psychology’ and follow the behaviours of the crowd. Rather than treating your investments the way everyone also appears to, you should aim to calmly review your investment strategy, seek expert advice and make decisions in accordance with your long-term plan.
Drill down on debt
Debts can take a significant psychological toll and contribute to your negative emotions. Focus on paying your outstanding debts and avoid taking on any more debt. Review your financial strategy and consider ways to contribute extra payments towards your debts.
Establish a plan
Not having a plan adds fuel to your fear. Taking stock and then putting a plan in place to deal with your challenges will give you back control. Through this process, understand your own risk tolerance and adjust your investment approach accordingly to avoid any unexpected stress.
The best way to avoid emotional investing is to partner with wealth experts.
At Calder Wealth Management, our financial advisers see through the headlines and fear, providing you with sound advice and peace of mind.
Written by Ben Calder at Calder Wealth Management.
This is general advice only and does not take into account your financial circumstances, needs and objectives. Before making any decision based on this document, you should assess your own circumstances or seek advice from a financial adviser and seek tax advice from a registered tax agent. Information is current at the date of issue and may change.
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