- March 13, 2020
- Category: Financial Planning, Investments
Nowadays, almost every 9 out of 10 messages on WhatsApp you will read would be related to Corona Virus. There are also videos where the self-proclaimed experts would talk about home remedies and preventive measures to deal with it. Further, you will see debates on media channels about how Corona Virus is adversely affecting the global economy including India. Then we have the Yes Bank fiasco which has shaken every common man’s trust in depositing money with banks.
The power of social media amplifying bad news is unprecedented. Everyone you know is sharing the same message on different groups. A spate of such bad news has led the stock markets into a tailspin.
How do you deal with this as an investor? Do you pro-actively take action? Do you react?
Before we come to that, it is critical to understand a few common investing biases that often lead to poor investment decisions. These biases are very much ingrained in investment behaviour often leading to poor judgement and impulsive decision-making. Let us discuss them:
Recency Bias is one of the biggest enemies of an investor. It describes the investor tendency to extrapolate a recent experience into the future. For instance, the current bloodbath in the markets is the result of all the negative news being constantly consumed by investors. Encompassed with growing fears, investors tend to have a myopic view of an event. They feel like it’s the end of the world and markets will keep falling never to recover. Anticipating more pain in the markets further, most of the investors press the sell button.
Humans as social animals gain comfort in something just because a vast majority are doing the same. This cannot be truer than in the stock markets. The typical herd behaviour is reflected in investors as they buy when the market is high and sell when the markets are down. In the current scenario too, most investors are jumping onto the sell bandwagon. They are influenced by their peers to follow the same trend in the stock markets even if it may not be in their best personal interests.
Loss Aversion: This kind of a bias can really hurt investors when they refuse to take in big losses. Take the recent case of Yes Bank crisis. There were many investors in Yes Bank who stayed put even after huge NPAs reported and other red flags like non-compliance in regulatory requirements. They did not want to cut losses. In fact, many averaged out their cost by further buying as speculation was rife about a new investor bringing in capital. All hell eventually broke lose when RBI superseded the board of Yes Bank and imposed a moratorium on the capital starved bank. Due to the loss aversion bias, investors are now saddled with even bigger losses.
How to deal with these investment biases?
Investment or cognitive biases as they are called are hardwired in investors and it is difficult to overcome them, especially in tough situations. One of the starting points in dealing with these is to understand and acknowledge them. It is important for you as an investor to stay grounded and look at the fundamental picture. Do not have a myopic view about the recent downfalls. The markets have weathered even worst situations earlier compared to the present times. For e.g., the technology bubble in early 2000, the Global Liquidity Crisis in 2008, etc. Understand that markets on a daily basis are influenced more by external factors like political developments, global oil prices, RBI’s monetary policy, international factors like Brexit, US elections, Fed policy, the recent Corona Virus scare, etc. It is this constant barrage of news that influence the market fluctuations in the short run.
But it is the fundamental factors like earnings of companies, operating cash flows, borrowing levels, innovation efforts that reflect in the businesses and the share price of companies over the long run. So, stick to your asset allocation and financial goals. Stay diversified and monitor your equity-debt proportions in your total portfolio. Track the progress of your goals periodically and stay invested in instruments taking into account the investment tenure. If you are investing for a long-term goal like retirement which is 10-15 years away, the current market developments should not bother you. In fact, if you have any surplus available, you can increase your equity proportion in total portfolio. These are the things which are in your control.
Finally, seek assistance of a professional financial advisor. An expert financial advisor’s main job is not investment management but more importantly investor management. He will prevent you from making mistakes especially when you are most vulnerable during downturns. He will handhold you, guide you and keep you focused to achieve your financial goals rather than timing the markets.