The basic agenda of any investor – either a rookie investor or veteran investor – is to earn more with their investments by taking less risk. How is this achieved? By buying at the right price and selling at the right profits. A seller in the market sells believing that the prices are high with limited upside. A buyer believes that the seller is selling cheap as there is a greater upside to be realized. This is the CIP – Common Investor Psychology.
A veteran investor is the one who makes more right buying and selling decisions. He implements his decisions considering the right rationale. Rational Decision making is the most important for investor success. This is where rookie investors are behind veteran investors. They do not always make decisions rationally.
Rookie investors deviate from rationality. They use heuristics or rules of thumb to make decisions. This becomes the prime reason for investment failure and they blame the market. We have observed 9 common irrational behaviors that rookie investors do while decision making. Knowing and avoiding these behaviors will make you 9 steps ahead of rookie investors. Way to become a veteran investor!
- The tendency of rookie investors is to give more priority to avoiding losses rather than making profits. They often hold on to loss-making stocks. Then they start praying and believe that the price will eventually come back. Praying won’t help you to make profits out of the market. The only right rationale will help!
- After buying a losing stock, the investor is faced with the decision of selling it. Rookie investors become emotionally affected by the price they had paid for it. Adding to the regret of buying a losing stock, they further regret not selling it when it becomes obvious that they have made a poor investment decision.
- When the market is moving up or down, investors believe that the others are more knowledgeable. Though they would have taken a rational decision, they tend to fear the decision they have made. As a consequence, they drop their rational decision and tend to follow herd instinct and do what others are doing.
- If the investment had once given a large gain, the investor expects the same gain when he/she has invested. He/she hesitates to sell for a modest gain and expects to get the large gain the investment had given once in its lifetime.
- Rookie investors emphasize on judgments derived from small samples of data or from single sources. They watch an investment program on television and tend to make decisions based on the judgments and views of the so-called-expert on television. Rookie investors fail to do their homework.
- Rookie investors express a different degree of emotions during the gainful investment and losing investment. They are emotionally stressed by the prospective losses than they are happy from equal gains.
- Rookie investors are too optimistic when the market goes up and too pessimistic when the market goes down. This behavioral attribute of investors is what makes the prices fall too much on bad news and rise too much on good news.
- Rookie investors give too much emphasis on recent news or views and decisions are made. They give trivial attention to the historical prices and fundamentals of investment.
- Rookie investors misinterpret luck with skill. If any of his friends pick up a winning stock, he misinterprets as his friend is more skillful and rational in investment picking. Earlier picks of the friend might be losing investments. But it might be pure luck by which he has picked the right investment this time. This is called the “Texas Sharpshooter Fallacy” and many investors become prey for this.
Emotion often overrules intelligence in decisions. We make decisions and then start supporting those decisions with trivial facts rather than considering rational facts.
You should have a rationale before making a rational decision. You shouldn’t search for the rationale after making a decision.
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Great Post !!