Three Psychological Effects to Avoid to Make You a Better Investor

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INTRODUCTION

If we find ourselves in a position where we have a solid trading plan in place and are still losing money, it is time to look inside ourselves and examine our own psychology to attempt to discover a solution. In dealing with our own minds we find that our objectivity is slanted. The underlying problem is usually obscured by biases and external insignificance.

As traders, the most severe problems encountered are the ones we don't even know are there. Human tendencies will affect our trading habits while we remain totally unaware they are present and negatively impacting our trading performance. Awareness of these tendencies can permit us to change our habits and hopefully improve our bottom line. In this article, let's examine three of these human tendencies that affect most traders, which if unchecked, can roadblock our path to achieving financial success.

SENSORY-DERIVED BIAS

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As humans, we gather information from our surroundings so as to form an opinion or a bias. In many cases, this gathering of information is a learning process allowing us to function in the environment. Nonetheless, as humans, we must come to the realization that although we may think we are forming an opinion based on facts, more often than not we are not. When the facts we are presented with are biased, our own perceived opinions are infected by the transmitted informational bias.

It is possible that facts may be presented which yield trust for the opinion or bias. In this case, it must be remembered that there is always two sides to a story. Additionally, continued exposure to one point of view will lead a human to believe it to be the sole practical opinion on the subject in question. Since no evidence to the contrary is conveyed to them, their individual opinion will be biased by that continuously presented.

FEAR OF THE UNKNOWN

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As humans, we can get locked into an unprofitable framework by avoiding things that might occur or by unfamiliar things to us. These unfamiliar things we avoid can prevent us from doing certain necessary things to improve our positions.

While it may seem a crazy premise, some investors can really fear the concept of making money. Usually an unconscious occurrence, traders do fear the expansion of their respective zone of comfort. Inevitably, this inaction can lead to a situation of self sabotage with respect to our investments [e.g. not investing because you fear all investment profits will be taken away by taxes].

Likewise, another potential bias is present by investing in only one specific industry in which the investor is familiar. This is especially relevant when the familiar industry is declining and is predicted to continue its decline. Here, the investor is avoiding the outcome due to the uncertainty of changing industrial investments.

A more common bias in this area concerns selling winning investments too soon while holding the losers too long. Getting out of investments too early is a result of the investor becoming risk-averse and ignoring the trend of the underlying investment. Conversely, when a loss is incurred, often they become risk-seekers which results in the holding of the losing position too long.

When the investment prices fluctuate, it becomes necessary to factor the movements magnitude to determine if the change is the result of misreported opinion or bias, or, a result of a viable fundamental change in the underlying investment. All of which are deviations from rational human behavior. These deviations yield irrational responses and thereby actions causing investors to forego potential investment gains as a result of the bias.

TANGIBILITY OF ANTICIPATION

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The 'I want' or 'I need' type of thinking is normally associated with anticipation and is a very powerful feeling. That which is anticipated is something that will come in the future, but the mentality of anticipation exists in the here and now.

This feeling of anticipation can become a very powerful emotion in humans. In fact, the feeling of anticipation can become so powerful that it evolves into the focus displacing the actual achievement of that which we were anticipating in the first place.

When things we seek are not so easy to come by, humans may utilize this feeling of anticipation as a consolation prize for that which was originally intended. In this irrational line of thinking, our desire is to be profitable, however it becomes the underlying 'wanting' that is the goal supplanting actual profitability. In the various markets we watch billions of dollars change hands daily, however, by failing to have the confidence to follow a plan and earn some of the billions exchanged, subconsciously we perceive that the mere dream of profit is sufficient.

REMEDIES FOR THESE PSYCHOLOGICAL ROADBLOCKS

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Becoming aware that our investments may be affected by our own human psychology, the awareness is more often than not sufficient to inspire change. Once recognizing the impact of our psychology, we can realize its effects on our subconscious reasoning and if we work on it, we can in fact improve our trading decisions.

First and foremost in removing these psychological roadblocks, elimination of obviously biased opinion inputs is essential. The hard facts contained in financial charts do not lie, however, how we perceive them may. To reap the optimum chance of investment success, it is necessary for the investor to always remain objective and to adhere to simple strategies to derive profit from movements in price. As humans, we must come to understand when it is an opinion that is driving our investment decision and to replace that opinion with an objective view of the reality present.

It is essential to have at least a rudimentary understanding as to how the various markets in which we are investing work and deviate. With this understanding, we mitigate our fear and/or greed while engaging in trades. We tend to make many mistakes when we enter unknown territory and have no concept concerning potential outcomes. But if we at least have a probabilistical understanding of how the market we are engaged with moves, our actions can become based on objective decision making strategies.

And finally, it is essential that we, as humans, come to terms with what we really want, why do we want it, and how are we going to obtain that which we want. We must begin to trust the thoughts that enter our minds when an investment mistake is made and contemplate the beliefs behind the mistake. Understanding these thoughts and beliefs arm us with the tools to evoke change necessary to bring the desired success to our everyday life.

CONCLUSION

Even when we don't believe we are trading on biased information, biases can and do affect our investment decisions. When faced with vague outcomes, our judgment is erred even in situations where we follow the concept of how the market is supposed to move. Our feelings of situational anticipation may also operate so as to deter us from the achievement we really desire. To mitigate these potential investing pitfalls, we can actively avoid all biased inputs, gain a better understanding of applicable market price movement probabilities, and reach a specific definition of that which we truly wish to obtain from our financial investments.

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