OCEAN CITY — Do you blame your investing blunders on bad luck? A bad market? There’s evidence that poor performance is often the result of ingrained behavior patterns.
Experts in behavioral finance have identified certain predictable patterns of behavior that lead investors to make the same mistakes over and over. Here are three common behaviors that can deal your investments a substantial setback — and some changes that can help you avoid them. Next week we will look at three more.
Too Much Trading
Too much trading can be costly, time-consuming and generally bad for performance. Some frequent traders may be trying to “time the market” — believing they can guess when different types of assets will rise and fall in value. Active traders tend to underperform the market.
Their trading can become a vicious circle of market timing errors, followed by attempts to correct those mistakes, which only continues the pattern. Men are more likely to be active traders than women. As a result, single women tend to outperform single men with their investments.
Break the habit of too much trading. Recognize the pattern, create a plan for investing that matches your risk tolerance and time horizon, and stick to it. Enlisting the help of a professional financial advisor can help you maintain the discipline you need.
Following The Crowd
When the markets are sinking or soaring, it’s easy to get swept up in the moment and follow the crowd. Examples of this are some of the infamous market “bubbles” of the recent past. Two decades ago, biotechnology stocks captured the imagination of many investors. A year or two of soaring returns were followed by a sharp decline. A decade ago, the pattern was repeated with Internet-related technology stocks. In the mid-2000s, it was the housing market. By the time there’s a “crowd” to follow, the popular investment sector already may have peaked. Typically, the last investors to join the trend pay the highest prices for their investments and are hurt the most when the bubble pops.
Avoiding the crowd mentality means tuning out the hype that often comes from the media or even the neighbor next door. Consider a more useful investor habit — maintaining a portfolio based on your time horizon, risk tolerance and long-term goals. With that approach, it may be easier to ignore the crowd and stay focused on your goals.
Too Close To Home
It’s only natural that investors favor what they know. You may invest most of your money in U.S. markets and ignore international investments because it feels comfortable. You may own shares in a local company because — well, it’s local. You may hold onto your savings bonds because your family gave them to you. When your attachment to an investment is more emotional than rational, it can cloud your decisions.
A financial advisor can help you sort out your reasons for holding onto certain investments, and help you make choices that fit your investing goals.
(A Merrill Lynch Wealth Management Advisor. She can be reached at 410-213-8520.)