14 Aug Smart Thought Of The Week: Aversion
Did you know that losing $1,000 has a greater psychological affect on us than making $1,000? It is called an aversion to losing money. Whilst we like to make money, we absolutely detest losing it. But loss aversion is more than just a preference for not losing money. It is much more profound than that.
Loss aversion is particularly evident when it comes to investing in the stock market. After all, aren’t we are told, time and time again, that investing in shares is one of the best ways of growing our wealth?
We are told that the expected return from investing in shares is overwhelmingly positive. Therefore, we expect to make money from it, come what may. And when we don’t, we are not only disappointed but some of us might even be positively incensed. We start to wonder what can possibly have gone wrong.
Point is, when we are in the midst of a bull market, we are more than happy for shares to carry on rising, regardless of how expensive they might be. We expect our investments to go up even if their valuations have reached stratospheric levels. But when the value of our investments fall, as they are doing now, we immediately ask how long the correction will last.
We somehow think that it is unfair that we should be losing money. Surely, that can’t be right. Surely, it must rebound soon. Surely, the correction can’t possibly last this long. Surely, share prices must start to go back up again. Surely, central banks must come to the market’s rescue, as they have done so many times in the past. Surely, surely, surely.
What’s interesting is that when shares are on the rise, we become more engaged with stock markets. But when markets are down, our emotions can quickly turn from delight to anger. It is precisely for that reason that we should never let emotions dictate the way we invest. We should stick to our plan regardless of what is happening in the market.
As a dividend investor, my strategy is to buy income. I buy less income when share prices are high, and I get to buy more income when they are low. Regardless of what is going on in the market, I am always looking to buy income. We can only do that if we learn to invest without emotion. And for some investors, it means ignoring what is happening in the short term and sticking to a predetermined long-term strategy.
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