Why emotional investing is not good

We get it, the high of watching your accounts go up and up is addicting, but this type of emotional investing comes with its own set of very real and very serious risks. To craft the perfect investment portfolio, you should be building with both your risk tolerance and goals in mind.

Come with us as we explore the roller coaster that is emotional investing.

The rollercoaster of emotional investing

When we first start investing, it’s common to feel a surge of optimism and anticipation. We eagerly watch our investments grow, feeling a thrill of excitement with each uptick in our account balances. However, this initial enthusiasm can quickly turn into overconfidence when the market performs well.

• Excitement turns to overconfidence: As our investments show gains, we may start feeling invincible, believing that the good times will continue indefinitely.

Unfortunately, market fluctuations are inevitable. Economic news or global events can trigger sudden drops, causing our accounts to decline. This is where emotions start to play a detrimental role.

• Regret, fear, and panic: When our accounts start to dip, regret sets in. We might convince ourselves to hold on, hoping for a rebound. But if the decline continues, fear creeps in, followed by panic. We consider pulling out of the market altogether.
• Defeat and despair: As losses deepen, we may feel defeated and hopeless. The emotional toll can be overwhelming, leading many to sell at the worst possible moment—when the market hits rock bottom.

The cycle of emotional decision-making

Emotional investing follows a predictable cycle, driven by fear and overconfidence. Understanding this cycle is crucial to avoiding costly mistakes.

• Optimism: We begin with hope and excitement, expecting consistent growth.
• Overconfidence: Success early on can lead us to believe we’re immune to downturns.
• Regret and fear: When losses start to occur, regret sets in, followed by fear of further losses.
• Panic: As declines persist, panic takes hold, driving impulsive decisions.
• Defeat: Selling at the bottom results in a sense of defeat and resignation.

The damage of emotional investing

Emotional decisions during market downturns can have lasting consequences on our financial future.

• Loss of potential returns: Selling during downturns means missing out on potential recovery and future gains.
• Undermining long-term goals: Emotional decisions can derail long-term investment strategies and retirement plans.
• Psychological impact: The stress and anxiety of financial losses can spill over into other areas of life, affecting well-being.

The importance of emotional resilience

To navigate the highs and lows of investing successfully, we must cultivate emotional resilience.

• Stay the course: Resist the urge to make impulsive decisions during market volatility. Remember that investing is a long-term game.
• Focus on fundamentals: Instead of reacting to short-term fluctuations, focus on the fundamental strength of your investments.
• Diversification: Spread your investments across different asset classes to reduce risk and volatility.

Overcoming emotional biases

Emotional biases can cloud our judgment when investing. Recognizing and addressing these biases is key to making rational decisions.

• Loss aversion: Fear of losing money can lead to selling at the wrong time. Focus on long-term goals and investment strategy.
• Confirmation bias: Seeking out information that confirms our beliefs can limit our ability to see the full picture. Stay open-minded and consider diverse viewpoints.
• Herding behavior: Following the crowd can lead to buying high and selling low. Trust your own research and analysis.

Harnessing emotional intelligence

Developing emotional intelligence is essential for successful investing.

• Self-awareness: Recognize your emotional triggers and tendencies when it comes to financial decisions.
• Self-regulation: Learn to manage impulses and make rational choices based on facts and analysis.
• Empathy: Understand market dynamics and the emotions of other investors to anticipate trends.

The long-term outlook

While market volatility can be unsettling, history shows that the economy tends to trend upwards over time.

• Patience pays off: Investors who stay disciplined and ride out market fluctuations are often rewarded with long-term gains.
• Professional guidance: Consider working with a financial advisor to develop a strategy that aligns with your goals and risk tolerance.

Next steps?

Emotional investing can be a costly mistake. By understanding the impact of emotions on our financial decisions and developing emotional resilience, we can navigate market volatility more successfully.

Remember, investing is a marathon, not a sprint. So, stay focused on your long-term goals and avoid letting short-term emotions dictate your financial future.