Money can be an emotive subject. When your long-term goals are at stake, it’s easy to feel nervous, scared, or impatient about the returns you can expect to generate on your money. After several years of uncertainty on the stock market, it’s understandable that those emotions might be more heightened than usual.
But, according to recent data, letting your emotions guide your financial decisions could end up costing you more than time and energy; it could also cost you a lot in foregone returns.
Read on to discover exactly how much emotional decision-making could cost you each year and how to make sure your emotions don’t start calling the shots when it comes to your portfolio.
Emotional decision-making surrounding your investments could be costing you 2% a year in foregone returns
In a recent survey reported by FTAdviser, advisers believed clients who allowed their emotions to lead their investment decisions could be losing out on at least 2% in returns each year. When you factor in the effect of compound returns over the long term, this could create a significant shortfall.
The survey found that uncertainty on the stock markets in recent months had affected investor confidence, potentially leading them to make snap decisions about their investments. Advisers agreed that one of the biggest mistakes made by investors was allowing financial news to influence their decisions.
Financial headlines can sound scary, particularly if they’re sharing news of market volatility or low returns in a particular sector or fund. But these updates are rarely helpful because they don’t consider the long-term potential of the stocks in question.
Another mistake that advisers said they often saw was clients taking too little risk on investments. While it’s important to manage the risk that your portfolio is exposed to, taking too little risk can mean that you miss out on the potential returns needed to achieve your financial goals.
It’s natural to feel a little bit concerned if your investments haven’t performed as you thought they might. But it’s important to think objectively about the risks involved before you make any changes in how you invest your wealth.
5 ways to avoid emotions influencing your investment decisions
While every investor is likely to experience negative and positive emotions at some point in their investing journey, there are a few things you can do to avoid letting these emotions influence your decisions.
1. Focus on the long term
Keep in mind the long-term goals you have for your money and remember that Rome wasn’t built in a day.
When you worked with your financial planner to create your portfolio, you will have chosen a careful balance of asset classes to mitigate risk while offering the potential to hit the targets you have set for yourself.
While it might occasionally be necessary to rebalance the portfolio, remember that any changes you make should be based on their potential to help you achieve those long-term goals rather than any short-term worry or fluctuation in value.
2. Talk about your emotions with a partner or friend
While your emotions shouldn’t play a part in the decisions you make about your investments, it’s not always easy to simply push them aside. Sometimes, talking about how you’re feeling with someone you trust can help you to process and move on from them.
When you can recognise and acknowledge the emotions that uncertainty or volatility could be causing, it may be easier to think more objectively about the financial decisions you need to make.
3. Learn about cognitive bias and how to spot it
Cognitive bias is something that can affect everyone, although you may not experience the same biases that your friend or colleague might.
Biases can influence our decisions based on emotional responses to things like investment returns, financial news, or other people’s experiences.
Recency bias, for example, is a tendency to believe that events that have happened recently are more likely to reoccur than is statistically probable, such as a market downturn. This can lead to you basing financial decisions on something that is unlikely to happen.
When you understand how these biases work, it can be easier to notice when they’re happening and prevent them from influencing your decision-making.
4. Avoid looking at stock market updates too regularly
Even though it might be tempting to check how your investments are performing, there simply isn’t a need to look at daily or even weekly updates. As you read above, looking at financial news too regularly can stir up emotions that can lead you to make snap decisions about your investments that aren’t always aligned with your goals and circumstances.
A more helpful thing to check is how your investments are performing against the targets you have set for yourself. When you have a good idea of this, it’s much easier to make sensible decisions that will benefit you in the long term.
Holding investments for the long term usually gives them the greatest chance of generating the returns needed to help you hit your goals.
5. Work with a financial planner who can coach you through worrying times
It can be helpful to work with a financial planner to provide you with objective advice about how to invest to give you the potential to achieve your goals.
Your planner can also help you to work through any emotions that are causing you distress over your financial situation so that you can feel confident that you are taking the most sensible steps for you.
Get in touch
If you’d like to learn more about how we can help you to make sensible financial decisions that move you closer to your long-term goals, please get in touch.