Why your emotions are affecting your investment decisionsSeptember 5 2016
It is commonly understood that the financial markets are driven by fear and greed. And history has repeatedly demonstrated how these two strong emotions are affecting investment decisions and underpinning peoples buying behaviours in the booms and bust cycles.
How the market is portrayed can greatly influence how these emotions impact upon our buying behaviour. Understanding the emotional drivers to investing can give you a significant edge when it comes to where, when and how you invest. When combined with sound financial analysis, building a Property Investment portfolio can be a highly successful strategy for building wealth.
Perception vs Reality
An Investors’ ability to make informed decisions relies upon being able to differentiate a plethora of information in a strategic non-emotional way. Part of navigating where, when and how to invest means identifying what are the ‘perceived versus
real’ risks and benefits for the purchase decision.
Before making a buying decision, Investors often seek input from their reference groups, whether it be family, friends, their trusted Finance professional, or from general information about the state of the market which they glean from media sources. Each of these inputs has the ability to influence our attitude and perception towards the market, and therefore our subsequent buying decision.
Research in the science of Consumer Behaviour shows that consumers exercise a great deal of selectivity about what aspects of the inputs they will perceive. Much of this happens at a subconscious level and this ‘Selective Perception’ process depends upon two main factors. Firstly, our interpretation is based upon what we expect to see. This is taken in consideration of our previous experiences and the number of plausible explanations we can identify which supports our viewpoint. The other is determined by our level of interest in the market at that particular point in time.
The problem for Investors is when this subconscious ‘selective perception’ is distorted by how we stereotype the information, or, we are bombarded by irrelevant information which is out of context.
Another common problem is the ‘jumping to conclusions’ before all the relevant evidence is sought. This filtering process means it is not easy to differentiate between what is purely our perception and that which is reality. Thus, making it
far more difficult to find the right buying signals.
A significant complicating factor is that we consciously interpret this information in a way which serves to fulfill our personal needs and wants. Which is where fear and greed come into the equation.
In a downturn or declining market, people fear losing money. And in this scenario, fear is generally a stronger force than greed. What results is people hold onto their hard earned dollars.
People selectively filter and see reasons not to invest, and then justify their decisions by seeking input from their reference groups to support that feeling. It is in times like these, that good buying opportunities present themselves but are often missed as fear strangle-holds the potential buying perspective.
On the flipside, when the market is expanding, both fear and greed influences behaviour. This is often reflected as a buying frenzy. The fear of missing out drives people to make quick, often uniformed decisions leaving them potentially vulnerable as the process of performing their due diligence is often neglected, rushed or incomplete.
Similarly, if greed raises its head, risky buying attitudes may lead to the more speculative buys in the hope of a grandiose win. Of course, in a rising market these punts can pay off with handsome returns which often fuels feelings of confidence to otherwise risk adverse investors. However, if the opposite occurs, the devastation of losses can be potentially catastrophic.
These two emotions of fear and greed can ultimately determine the degree of success of an investment purchase. The ability of the Investor to keep their emotions in check will enable a strong foundation for sustainable wealth to be created, regardless of whether a market is expanding or contracting.
In order to achieve this, the Investor importantly needs to understand the process of ‘Selective Perception’ and how this impacts upon their buying decision.
Researching any of the worlds’ great Investors, for example Warren Buffet, will reveal clues as to how they manage their buying decisions.
They all follow a similar formula and by addressing these key principles have successfully demonstrated that there is always money to be made.
These principles are:
- Buy low, sell high
- Know your cash flow and your financial capacity to hold the investment, and
- Keep your emotions in control
- Be patient
Are you an investor being driven by emotion and trying to work out when is the right time to buy, if you can afford to buy and what you should invest in? Find these answers and more in our Free Whitepaper available to all WA Property Club members.