The oldest advice in the financial world: buy low, and sell high. And easy to follow too, right? Then how come we’re not all gazillionaires? That’s the Behavioral Finance $25,000 question.
First off, maybe a gazillion bucks isn’t everyone’s goal, but even moderate growth on savings over time in preparation for retirement shouldn’t mean we suffer losses over and over again along the way. So beyond market volatility, what are the factors for our repeated or short-sighted poor finance decisions?
Let me share a story.
Years ago I got a “hot stock tip” from a buddy, stop me if you’ve heard this one before. Between his recommendation and the historical value showing nothing but upward mobility, why not? Well, it hit. A solid 34% gain in just about a month. Amazing, right? I was so excited, I could barely wait to see what it would do next. And that’s the turning point. A couple of dips later, I still had a significant gain, but I was going to ride it all the way back up. It had to bounce back, right? That’s optimism bias. So to remove myself from further discouragement, I opted to not check it daily, even weekly. And in about the same amount of time of its rise to greatness, it dipped to pennies on the dollar below my initial buy-in. What happened? I got greedy? I didn’t set limits (gain or loss)? I got caught in the Herd-following bias. I was following the lead of the others instead of the hard facts, or following a set plan.
Well, I finally got around to telling my Financial Advisor. Even though she’s entrusted with my long-term savings plans, I’d not considered sharing my “fun experiment.” She took one look at the company’s performance and simply said “they’re awful, sell it while you still have something. And next time, check with me first”. Good advice, but not what I wanted to hear. So, I kept it anyway, even in light of overwhelming odds. That’s Overconfidence Bias.
It’s been almost 6 years of hanging onto to this one-time trading nightmare. At least, we weren’t “missing” the money, just sad to have seemingly blown the wad. On a positive note, I’m on the cusp of another big potential return. A rental house we bought at the bottom of the market and now, with a little elbow grease, is primed for resale. Bought, mind you, with our Financial Advisor’s full support. It’s our backup plan if we both lose our jobs and need to get out of our big, nice house quick. We could downsize finances in a hurry. Anyway, the silver lining, since I’ve held onto the dog of a stock, is to sell it when we sell the house and take the stock loss to offset the house profit. Not brain surgery, but in sync with our advisor’s input.
A nice story about Behavioral Bias and advisor communication, but let’s get back to the Financial Personality of a person who might seem to haphazardly buy high and sell low, when they meant to do otherwise, and how this affects long-term financial planning efforts.
Our Financial Personality covers both innate and learned behaviors in regards to our financial decisions. It also includes our behavioral biases, communication style, and Market Mood. So knowing one’s Financial Personality is the key to developing financial goals and then the plan to achieve them. This transparency in truly understanding ourselves helps us navigate volatile market events and stay on point for the greater good. Your Financial Advisor has assessment tools that can quantify your personality traits. There’s a self-guided version posted here (personal assessment) to try for yourself.
Another integral part in working with your Financial Advisor, or any business colleague, friend neighbor or significant other, is communication. Recall that I included my advisor on the house purchase, but I only spoke with friends on the stock ordeal? Well, we all have our own communication style. And we tend to run in circles where our own style is fairly prevalent — learned from families and developed amongst friends. But in the business world, good communication is key to being understood, and understanding others. And we won’t always get to choose to (or from) whom we engage. So we have to learn to adapt (or be left behind). Wouldn’t you want a way to identify how you come across to others or how best for others to engage you? Well, there are assessment tools for this too. Again, here (communication style) is an assessment you can try, and even share with others.
It’s no coincidence that I included the interactions with my Financial Advisor as part of my financial thrill of victory and agony of defeat. She was and continues to be in my corner for staying on course and avoid making bad decisions when the terrain suddenly changes. And some mistakes have wholly been on my own. Now, this may not be the case for everyone, and that’s why we’re kicking off this discussion — to find the peaks and valleys of our financial journeys and help one another along the way. If you’re interested in seeking an advisor, or already have one, and want to share what’s being discussed here, please check out this advisor finder.
Likewise, tune in for more Behavioral Finance for the DIY Investor over the next several weeks as we cover the many ways our Financial Personality, Behavioral Biases and Communication Styles affect, and are affected by, our relationships with our friends, family, Business and Financial Advisors.