Smart investing: Tips for keeping a cool head
Instinct often causes people to make financial decisions emotionally—not logically. Understanding human behavior can help you rise above those emotions to make smart, measured investment choices.
Michelle Fuller, an employee benefits advisor at Steward Sneed Hewes, a division of BancorpSouth Insurance Services, frequently sees evidence of emotional decision-making.
"My clients risk making knee-jerk decisions every time the market goes up or down," she says.
Countering human nature to achieve financial goals
Countering emotions is challenging, but it's possible. Here are a few ways human nature can get in the way of your financial goals—and how to overcome them:
The problem: We're tempted by the near term.
Like quitting smoking or sticking to a diet, saving for retirement requires placing long-term benefits ahead of near-term gains. You know that saving for retirement is a rational decision, but it may be hard to put a value on benefits you won't enjoy for a long time.
How to solve it: Try to boost your salary deferral contributions to your individual retirement account (IRA) or employer’s retirement plan (a 401(k) or 403(b) plan) each year. Even better, your employer may offer an automatic deferral increase option. Also, avoid impulse purchases. Have the discipline to walk away for a day and ask, “Do I really need that?”
The problem: Losses hurt.
Many people have a tendency to worry more about their losses than they enjoy gains. This tendency may lead you to accept lower return potential than needed in order to avoid the sting of a loss.
How to solve it: Set up a rebalancing plan and stick to it. Review your investment elections periodically to make necessary adjustments, but not so often that you get caught up in every little market flutter.
The problem: Having too many choices can be counterproductive.
When faced with a large volume of investment options to choose from, we may find ourselves in the grip of “decision paralysis”. Many plan participants cope by opting for “safer”, lower-risk investments—but these investments often have lower potential returns, as well.
How to solve it: Select the appropriate investment mix for you. Adapt your asset allocation plan based on your needs—not the available choices.
The problem: We chase past success.
Active investors may tend to buy more after periods of strong performance, but short-term gains don’t always translate long-term returns.
How to solve it: Try not to obsess about short-term market moves. It's a good idea to keep your eye focused on your ultimate retirement date, not the daily headlines.
By keeping a cool head—and maintaining perspective with your investment decisions—your financial strategy will stay on track over the long-term, and you’ll be more likely to reap the greatest benefits.