Expert advice

Sep 30, 2015,14.16 IST

Behavioral biases that may hurt your investments

Nitin Vyakaranam
ArthaYantra.com

Leading a comfortable life is a top priority goal for almost every one. However, with increasing living costs and other commitments, most of us are unsure of fulfilling this goal. Investing hard earned money across various investment avenues to safeguard our financial future overlooks common ‘Behavioral’ mistakes which may hurt financial well-being. Here are a few behavioral biases that should be avoided while investing:

Emotional Bias: It is a fact that most humans respond more towards emotions than we do to logic. Most of us follow parent’s guidelines while investing because it is emotionally hard wired that whatever they suggest is always beneficial for us. However, we miss the logic that investments that had worked for our parents may not work for us, because we don’t have the same financial goals like our parents. Additionally, many financial products are sold in the name of emotions and showcase emotional bonding to lure investors. Additionally, past financial judgments based on improper understanding of markets will lead to forecasting biases as well. Since none of us can predict the market, this must not become an emotional decision. Finally, being brand loyal is not always a wise thing to do because this behavior will make us choose on an emotional, rather than a rational or logical level. All these put together contribute to emotional bias of an individual, which will result in buying a toxic instrument.

Herd Mentality: We sometimes get influenced by peers, who are performing well in building their own wealth. While it is always good to be inspired, we must not try to imitate their investment strategies’ as their lives are different from ours and so are their goals. Just blindly coping others’ investment strategy will have a bad impact on our personal finance as it is not customized for us. So identifying self-financial goals and introspection is necessary before taking any investment decision. It will ensure you a financial prosperity or wealth creation. So, a proper groundwork should be done by us before investing in any financial instrument.

Savings Vs Consumption: Shopping on impulse has become a norm for most of us. On an average, this has increased the spending behavior of an individual, which indicates that we crave for instant gratification rather than saving for future needs. If this behavior continues to grow with us, we will have to face an adverse situation in future. It is always important for us to save for future before spending it today.

Risk Bias: Knowing our risk capacity is important before we invest in any instruments because the instrument should fit us well at any time. So, the risk tolerance should be gauged before taking any investment decision. Unfortunately, most of us have made improper investment choices by over or under estimating our risk capacity. A professional financial advisor will be able to help us in identifying our risk capacity.

Conclusion: Although these biases are mostly natural to human behavior, they could negatively impact investments. Investing is considered to be purely logical, so it is important to find the right quantitative strategy before we invest money.
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