Episode #39- Making Better Investment Decisions

Wealth Decisions Podcast Transcript for Episode #39: Making Better Investment Decisions

Listen to this episode on Apple Podcasts or Spotify

Welcome to The Wealth Decisions Podcast, where each week I take 15 minutes or less to discuss crucial wealth decisions and mindset hacks to help you live a richer life.

I'm your host, Brian Muller, and I've been in the financial services industry for over 25 years, and I'm also a certified life and health coach.

And I have a passion for helping people make better decisions around their money and their life.

So, for the sake of time, let's dive right into it.

In today's episode, we're going to be talking about making better financial decisions.

And this comes down to the psychology of investing and how our minds kind of influence our financial decisions, which often in ways we don't really even realize.

Whether you're a seasoned investor or just starting to kind of dip your toes into the financial markets, understanding the psychological factors that drive our investment choices can be a real game changer.

By the end of this episode, you're going to have a better grasp of your own kind of mental processes and biases, and you'll be much more equipped with strategies to make more money.

So let's get started on this journey into your mind.

We're first gonna talk about the rational investor myth.

For decades, there's been a lot of theories that were built on the assumption that investors always act rationally.

But the reality is we are all driven by emotions and biases and social influences.

So let's look at some of the key psychological factors that influence our investing behavior.

Number one is what's called loss aversion.

We feel the pain of losses more acutely than the pleasure of those kind of equivalent gains.

This can lead to us holding on to losing investments too long.

Or avoiding necessary risks.

Number two is overconfidence.

And many investors can overestimate their ability to pick winning stocks or time the market.

Which leads usually to excessive trading or poor performance.

If we're overconfident because maybe we made one investment that did really well, and we think we can repeat that, we tend to be too confident and take too big a risks, which lead to poor performance over time.

The third one is confirmation bias.

We tend to seek out information that confirms our existing beliefs and maybe ignores some contradictory evidence.

This typically results in a kind of a skewed view of investment opportunities.

Number four is hurting.

And this is a tendency to follow the crowd and can lead to market bubbles like we saw in 1999 and 2000.

It can also lead to crashes as investors pile into, you know, pop, kind of popular investments without really doing any analysis.

You know, we saw that with GameStop.

We saw that in the tech boom and the tech bust 1999 to 2000.

Momentum investing in following the herd can make you feel good if you're involved in the growth when the markets are going up.

But when the bubble bursts or the market goes down, this is a quick way to lose a lot of money.

These are just some of the psychological factors and I'm not going to go into every single one of them in this podcast.

But you know, understanding that there are some psychological pitfalls is kind of the first step towards becoming more self aware and a better investor.

And this brings me to the second part of understanding your mind and understanding the markets.

Because when you think about the stock market, it's just a market of a bunch of people with different opinions and there's always someone buying and always someone selling.

And fear and greed are the two most significant emotions and forces that drive the markets in the short term.

You know, fear can paralyze investors, causing them to sell at market bottoms or avoid investing altogether.

But on the flip side, greed can lead to just excessive risk-taking and buying at market peaks.

Both of these emotions create market cycles.

When markets are rising, greed takes over and investors become overly optimistic and sometimes to the point of irrationality.

And this will typically lead to, like I said before, bubbles where prices become kind of very, very, very detached from the fundamental values of the market.

And then fear is when investors realize prices have risen too high, leading to selling pressure and market corrections or crashes.

And once the markets start going down and more and more and more, as prices fall, that fear will intensify and causing some investors to sell at the worst possible time.

You know, Warren Buffett famously advised investors to be fearful when others are greedy and be greedy when others are fearful.

It's a very contrarian approach, but it just requires you to understand that markets are driven by fear and greed in the short term.

But you have control over your own emotions and your ability to control those emotions.

To manage kind of these emotional swings, you need to, number one, develop a long term perspective.

There's no get rich quick schemes out there.

They're going to build your wealth quickly.

You have to have a long term perspective, have financial goals, and don't worry about short term fluctuations.

The markets will go up and down.

We will have corrections, we'll have bear markets, but you have to have a long term perspective and stick to your plan.

Have a clear strategy to help you stay the course during any of these markets, ups and downs.

Also be aware of your emotional state when making investment decisions.

If you're feeling extreme fear or greed, it might be best to step back and reassess and just take a couple days off of watching the markets.

And number four, obviously diversify your portfolio.

Spread your investments across different asset classes and help reduce some of the swings and the emotional impact of market volatility.

If you look at your portfolio right now, and 50% of it is in tech stocks, it might be time to reassess your risk tolerance and understand the risk that you're taking on.

Right now, if that is the case, then greed has taken over and the fear of missing out has overwhelmed your ability to be prudent with your investment strategy.

Now I want to dig just a little bit deeper into the psychological aspects of investing a little bit more and talk a little bit about some of the cognitive biases when it comes to investing.

There are a number of cognitive biases that can impact our ability to make good investment decisions.

And here is just some of the common ones.

Number one is anchoring bias.

We tend to rely too heavily on the first piece of information we receive.

This might mean, you know, fixating on the stock's past price.

Because if it was once at a certain price, and now it's 70% lower, we think that it could go back to that price.

Number two is recency bias.

We give more weight to recent events and assume that they'll continue into the future.

And this can lead to chasing performance or even panic selling after market downturns.

Number three is availability bias.

We tend to overestimate the likelihood of events that are easily recalled.

So in investing, this might mean overreacting to recent news or dramatic market events.

Number four is the sunk cost fallacy.

This is the tendency to continue investing in something because of past investments, even when it's no longer kind of rational to us.

And this can lead to holding on to losing investments for too long.

Number five is hindsight bias.

This is a tendency to see past events as having been predictable.

This can lead to kind of overconfidence in our ability to forecast future market movements.

Just being aware of some of these biases is crucial, but it's definitely not enough.

We need to develop strategies to kind of counteract them.

Number one in terms of a strategy is just to use objective criteria.

So, develop an approach to evaluating your investments based upon the fundamentals rather than emotions or recent performance, or because so-and-so said to buy that stock or an uncle said, this was a great company.

Number two, seek different perspectives.

Find different viewpoints that challenge your own.

Do some research.

This is going to help you overcome that confirmation bias and kind of broaden your understanding of any particular investment.

Another good thing to think about, number three, is just to keep some type of investment journal, record your decisions and your reasoning behind them.

I know this is something a lot of people probably won't do, but if you're going to invest in individual stocks, have a new log of why you bought something, so you can go back to that and refer to it.

And if something has changed fundamentally in the company or the reason you bought that stock is no longer valued, then it's time to probably sell that stock.

Number four, use some checklists.

You know, develop a checklist of the factors that you consider before making investment decisions.

This is going to help ensure that you're not overlooking important information due to maybe some type of cognitive bias.

The last topic I want to talk about is the social influences on investor behavior.

Investing doesn't happen in a vacuum.

Our social environment plays a significant role in shaping our financial decisions.

So let's examine just a couple of those.

Number one is social proof.

We often look to others to determine the right behavior.

In investing, this is about maybe following the recommendations of popular financial gurus or investing in hot stocks that everyone is talking about on Reddit.

Number two is authority bias.

We tend to kind of attribute greater accuracy to the opinions of authority figures.

You know, if Elon Musk says you should buy this stock, we might put an overreliance on that opinion because we know that he's a smart individual.

But he certainly is a financial expert.

Number three is social comparison.

We sometimes will evaluate our own performance relative to others.

In investing, this kind of can lead to taking on excessive risk, maybe to keep up with our neighbors or to match the returns of top performing investors.

So to navigate some of these social influences, I think number one, you have to develop your own independent thinking.

It might be valuable to consider other opinions and certainly you want to get as much information as you can before you invest in a particular stock.

But that doesn't mean it's right for your portfolio or your financial goals.

Focus on your own financial journey.

Avoid comparing your investments to others as everyone has different goals, risk tolerances and time horizons.

And seek out diverse information.

You know, don't rely solely on mainstream financial media.

Look for different viewpoints, do your own research, look at two or three different research reports if you're going to invest in an individual company.

So I hope you gain some valuable insights into the psychology of investing and understanding your mind when it comes to making financial decisions.

Just recognizing that there are some emotional and cognitive and social factors that influence your decisions can help you bank better financial decisions in the future and help you live a richer life.

So that's it for today's episode, Making Better Financial Decisions.

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My goal with the Wealth Decisions Podcast is to reach over 100,000 people by the end of the year in the Twin Cities and beyond.

So that people can make better wealth decisions to live a richer life.

If you like to schedule a discovery call with me, you can go to my website at momentouswealthadvisors.com.

And I will spend some time to get to know you a little bit and find out if I might be able to steer you in the right direction or help you with your financial future.

Once again, thanks for listening.

Listen to this episode on Apple Podcasts or Spotify


-Brian D. Muller, AAMS® Founder, Wealth Advisor

Momentous Wealth Advisors in a fee-only fiduciary advisory firm

Disclaimer: This material is for informational purposes only and should not be construed as investment advice. Past performance is not indicative of future results. Investors should make investment decisions based on their unique investment objectives and financial situation. While the information is believed to be accurate, it is not guaranteed and is subject to change without notice.

Investors should understand the risks involved in owning investments, including interest rate risk, credit risk and market risk. The value of investments fluctuates and investors can lose some or all of their principal.

Always consult with a qualified financial professional before making any investment decisions.