Meir Statman wrote an excellent article published in the The Wall Street Journal on Aug 4 titled The Mistakes We Make-and Why We Make Them How investors think often gets in the way of their results. Meir Statman looks into our heads and tells us what we’re doing wrong.
The article summarises the main behavioural finance mistakes investors make and offers valuable advice as to how these mistakes can be reduced or eliminated. I have found a lot of the mistakes I have made in the article and I am sure you will as well
The article is worth a reading on a monthly basis because the advice is so valuable and because if we are not reminded about the principles often we are bound to make the mistakes again.
Here are a few of the gems from the article:
“The trick, therefore, is to learn to increase our ratio of smart behavior to stupid. And since we cannot (thank goodness) turn ourselves into computer-like people, we need to find tools to help us act smart even when our thinking and feelings tempt us to be stupid.”
“Let me give you one example. Investors tend to think about each stock we purchase in a vacuum, distinct from other stocks in our portfolio. We are happy to realize “paper” gains in each stock quickly, but procrastinate when it comes to realizing losses.
Why? Because while regret over a paper loss stings, we can console ourselves in the hope that, in time, the stock will roar back into a gain. By contrast, all hope would be extinguished if we sold the stock and realized our loss. We would feel the searing pain of regret. So we do pretty much anything to avoid that pain—including holding on to the stock long after we should have sold it. Indeed, I’ve recently encountered an investor who procrastinated in realizing his losses on WorldCom stock until a letter from his broker informed him that the stock was worthless.”
“Successful professional traders are subject to the same emotions as the rest of us. But they counter it in two ways. First, they know their weakness, placing them on guard against it. Second, they establish “sell disciplines” that force them to realize losses even when they know that the pain of regret is sure to follow.”
The whole article is worth a few minutes of your time.