If you are not careful it is very easy to fall into the crowd mentality that the stock market is heading up decisively or is about to collapse, depending on the news of the day.
Some people are naturally optimistic, while others or of the glass is half-full mindset. Nothing wrong with either point of view, however if you're not careful you can cloud your judgment.
Optimists look for hopeful signs whether it is in the stock market or their daily lives. Pessimist on the other hand, may see impending doom in the news of the day.
These personality types can easily run afoul of the two most dangerous emotions: fear and greed. When these emotions spill over into your investing strategy, it can spell disaster.
The optimist will see improved signs of job growth as a certain indicator the economy is about to rebound decisively.
In reality, a few random bits of good news do not foretell a booming economy.
Likewise a pessimist may see a poor retail sales report for one month and conclude a recession must be in the near future.
We all want to think that buying and selling stocks is a cold, rational decision. Unfortunately, the truth is somewhat less flattering.
When it comes to money, emotions often get in the way of logic. We act too quickly, too impulsively or we don't act quickly enough, if at all.
It's not the rational side of our brain that's tripping us up, but the emotional side where the baggage we care about money resides.
Work at It
If you work at it, you'll be able to quiet that irrational side that is prone to ignore your best thought-out plans and you'll be able to execute your investing strategy. More importantly, you'll be able to stick with it when things go very bad or very well.
Some investors, however, have a very difficult time shaking the investing demons that seem to compel them into making the same mistakes over and over. Frequently the casual investor who doesn't trade often has the most trouble overcoming emotions in investing.
One of the steps to becoming a successful investor is being honest with yourself. If you have a difficult time saying no to that demon who wants you to jump after that hot little small cap stock, when what your portfolio really needs is some stability and income, then it's time to admit that you need some help.
There's no shame here (the shame is in making the same dumb investing mistakes over and over).
The primary driving emotion for many investors is the fear of losing money followed closely by the prospect of making a quick buck. Either one of these emotions clouds judgment and prevents you from thinking clearly about how an action (buy or sell) affects your portfolio.
What can you do if your emotions are getting in the way? There are a couple of steps you can take to stop or limit the influence of emotions on your investing success.
- Use an advisor. A financial advisor can tell you "no" when your emotions want to chase a wild rabbit stock down a hole and remind you of your investing objectives. They can help you set your objectives so you have something to measure trades against.
- Use a plan. Make a plan that focuses on your objectives. This is the do-it-yourself version of getting a financial advisor. The plan should address your objectives and any trades should be measured against the plan to see if they meet your objectives or not. Hold up any investment decision to the plan to see if it fits or not. If you are prone to fudging, you might have a spouse, partner or someone else hold the plan and make the call on whether the investment meets the plan's objectives.
- Cooling off period. Wait 24 hours before you make any investment decision that isn't part of your plan. It's amazing how different an investment can look after a good night's sleep - and remember, there will always be another deal.
Emotions are powerful influences when it comes to your money. Don't let them lead you away from a solid investment plan.