Breaking Down the Emotional Barriers of Investing

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Did you know that from 1994 – 2012 the S&P 500 Index averaged an annual return of 8.2%? That sounds pretty good right? Can you guess what the average investor’s return was for that same period of time? It was 2.3%. Do you know why that is? It is because the biggest hurdle most people face when making investment decisions is their own emotions. Many people make emotional decisions regarding when to buy or sell, and often times they end up making the wrong decision because it is hard to remain objective while making decisions about our own money. Here are some ideas for how to remove emotions when making investment decisions.

Know Your Risk Tolerance:

There is only one person who can tell you how risk averse you are regarding your money—you. Whether you are a beginning investor, or someone who has a good understanding of the stock market, understanding what “type” of investor you are is key. You may be a conservative investor when you exit your fellowship, but as you gain more investment knowledge, you may evolve into a moderate or aggressive investor. Every few years you should retake a risk assessment questionnaire to measure your comfort level concerning the overall risk of your portfolio. It is easy to consider yourself an aggressive investor when the stock market is gaining consistently, but it can be scary when the market takes a dive. Whatever you decide, you want to make sure that you can stomach the volatility of the markets without making rash decisions concerning your investment portfolio.
Education Is Key

The more informed you can become about investing, the easier it will be to make rational decisions about your investment strategy. If you understand the basic concepts of investing, it will prevent you from making knee-jerk reactions when there is a bad day, month, or even year in the market. Do you know the difference between a stock and a bond, an exchange traded fund (ETF) and a mutual fund? Do you understand the concept of asset allocation? It may sound cliché, but understanding the basics of investing is not brain surgery. Informing yourself and arming yourself with this knowledge will enable you to make decisions based purely on factual information. Without a grasp of the basic jargon, it is easy to get caught up in the media frenzy and to completely give way to emotion-based decision making.

Concentrate On YOUR Goals Only

Have you been in a conversation where someone is telling you how much money they made in their retirement account at work, and you begin to think about your own portfolio’s performance? Why did their account go up more than mine? Maybe I should change my allocation? This way of thinking completely abandons rational thought. If your goals are such that your long-term growth rate only needs to be 7%, then allocate your money to give yourself the best chance to achieve your goals. There is no reason to take on more risk than you need to, or more volatility than you are comfortable with. Financial advice is only important when it is specific to YOU. Taking generic advice can cause confusion more often than not. When it comes to investing your money, you should always concentrate on what your goals are and not on everyone else’s.

*R.Lenzner, “How to do Better than the Average Investor’s Paltry 2.3% Annualized Return for the past 20 Years,” Forbes.com. (August 2013).

The Tortoise Always Beats the Hare

I would challenge you to think long-term about your investment decisions. The more time you allot yourself to achieve your financial goals, the greater chance of succeeding you have. The formula for how money grows looks like this: FV = PV (1+i)ᶰ. The variables are future value of money (FV), present value of money (PV), interest (i) and time (N). If you go back to basic algebra, the only important variable to focus on is N right? Time is money…literally. If you allocate your investments appropriately, and leave your money to grow over a long period of time, then you will be ahead of the game. Knowing that you have enough time to work towards your goals also allows you to be less emotional in the decision making regarding your money. Emotional decisions can hurt you where your investments are concerned. Slow and steady wins the race.

Seth Cohn is a financial planner and founding partner of WealthMD. Seth specializes in representing health care professionals and their practices in the design, implementation, and maintenance of their comprehensive financial plans. He is experienced in working with physicians in all stages of their careers and has served as a guest educator at numerous teaching hospitals, IPAs, and medical associations throughout the southeast. Seth currently lives in Atlanta, Georgia, with his wife and son. For more information, please contact Seth at 404-926-1317 or sethcohn@WealthMD.com

Seth Cohn is a registered representative of and offers securities, investment advisory and financial planning services through MML Investors Services, LLC [404-926-1317] The views expressed here are those of Seth Cohn. Seth Cohn’s views are not necessarily those of MML Investors Services Inc. or its affiliates and should not be construed as investment advice.

*R.Lenzner, “How to do Better than the Average Investor’s Paltry 2.3% Annualized Return for the past 20 Years,” Forbes.com. (August 2013).

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