Be a better investor, understand emotions

Updated: May 19

Market volatility is inevitable so being able to weather the ups and downs is essential for any investor, beginner or veteran. One of the best tools for this lies in understanding emotions - both your personal emotions and the collective emotions of the market.

Our favorite visual for this topic is the “Psychology of a Market” from the Wall Street Journal. It depicts market cycles and the corresponding collective sentiment that we often experience in the stock and crypto markets.

It seems so simple to follow the well known adages, “buy low, and sell high” and “keep calm and carry on” but it often turns out that people do quite the opposite.

Many investors, especially the newbies, let their emotions dictate rash investment decisions to buy, sell, or not participate at all. Unfortunately, this often results in the all too common knee jerk reactions of panic selling at a low point of the market or euphoria buying at the top when the prices are the highest. Doh!

Have you ever experienced this? We sure have! It is like a rite of passage on the investment learning journey. Which is why it’s important to not get too down on yourself if it happens and to use it as a learning opportunity.

Greed vs Fear The above diagram shows that often the best time to buy is at the bottom of the market, when the collective sentiment is fearful and the price is low, and an ideal time to sell is when the market is euphoric and the price is high.

Warren Buffet’s famous quote illustrates this strategy, “Be greedy when people are fearful, and fearful when people are greedy.” There’s even a Bitcoin Greed and Fear Index that maps these market emotions.

So, the takeaway - if you want to become a competent investor, you’ll need to develop an awareness of your emotions and learn how to manage them within the overall context of the collective market sentiment. Doing so will likely improve your investment performance and you’ll enjoy the ride a lot more. Especially during these volatile pandemic years, it’s even more important to develop this ninja mindset.

How do you do this? Here’s a little exercise to get you started: When you feel a rush of emotion come on that tempts you to hit the buy or sell button on an investment, take a pause and observe. What just triggered that rush? Was it an alarming headline you just read? Was it a hyped up conversation with a friend? What emotion are you experiencing - anxiety, excitement, anger? Is there anything you can do to soothe that emotion and ensure it's not hijacking your decision making capabilities?

We find it helpful to locate this emotion on the “Psychology of a Market'' diagram and identify any correlation between the emotion and the point in the market cycle. It helps to know that you’re not alone in how you’re feeling about the market volatility. Being a part of a pragmatic community like INVESTERA that can help keep you aware and accountable during these times is super helpful.

It also helps to remind ourselves of our investment strategy; if you’re well diversified and in it for the long-term like we are you don’t need to be phased by the swings. We rest assured knowing that historical data shows that time and again, the market comes back so it fits our strategy to sit tight for the long haul. Looking at data going back to 1930, if an investor missed the S&P 500′s 10 best days in each decade, total returns would be 91%, strikingly below the 14,962% return for investors who held steady throughout the ups and downs. Source: CNBC.

It’s time in the market, not timing the market. So once you’re in, take the time to get settled, observe how your emotions swing with the market and practice managing your emotions until it becomes second nature. Developing a resilient investor mindset will benefit you and pay dividends for years to come!

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