When It Comes to Investing, Don’t Be an AnimalSubmitted by Occidental Asset Management, LLC on March 13th, 2012
Resist the urge to run with the herd.
We like to think that we are logical, rational beings. We want to believe that we weigh the pros and cons of each decision and choose the most effective course of action before we act. However, when it comes to money, our brains haven't evolved much beyond those of our furry friends.
Money is a hot topic. Studies show that it is the no. 1 source of stress in our lives, in good times and bad. Money is a primary source of conflicts in couples, and the no. 1 cause ofdivorce in the early years of marriage. Whether it is a steady build-up of funds over the years or a significant real or imagined sudden financial gain or loss, money comes wrapped in an emotional package; and when we are emotionally charged we become rationally challenged. Neuroscience has shown that when our emotions run high, our logical, rational brain shuts down. When it comes back online, we typically rationalize our behaviors. Simply put, when it comes to investment decisions made when we are anxious or excited, we can't trust our instincts. When we let our animal brain make our investment decisions, it wreaks havoc on our financial lives.
Recently, wild fluctuations in the stock market have been the norm. This is animal behavior in its broadest and purest form. Watching the Dow Jones Industrial Average's roller coaster ride can fill us with excitement or terror, depending on the day. Listening to the pundits on CNBC or FOX Business make up stories about why the market is swinging this way or that feeds our inner animal, keeps our eyes glued to the screen, and sells commercials. Whether it is an impulse to buy into the latest bull-run or a panicked imperative to pull out our money and buy gold bullion, a floor safe, and a shotgun, running with the herd does more harm to our financial health than any other investing behavior. The reality is that those big "missed opportunities" in the market have almost nothing to do with brains, and are more like lighting strikes—guaranteed to happen sometime, impossible to predict, and rarely hit the same place twice. Betting on the location of the next lighting strike is a fool's game.
Emotional investing is nothing new. A classic example occurred in the mid-19500s, when the tulip was introduced to Western Europe and soon became a prized possession. By the 1630s, a tulip craze had swept through Holland. Tulips began to be traded on stock exchanges. One rare bulb went for 12 acres of land. Soon enough, people sobered-up and the bottom dropped out. Many lost their life savings.
Whether it is tulips, technology stocks, loan default swaps, gold, real estate, or pork belly futures, we will never rid ourselves of the impulse to run with the herd and dive into the newest bubble. "Bubble babble" always accompanies the newest bubble, and is a sure sign that one is underway: "X will never lose value," "It is an entirely new market," "Things are different now," etc. However, the truth is that investing behavior will never change on a large scale because it is driven by the highly emotional, animal brain and group psychology. The key is to make sure that you don't fall victim to the next bubble and crash.
So the next time you hear bubble babble on television or at a party and start to get anxious or excited about the asset de jour that you "must have," you are likely experiencing a bubble. Resist the urge to run with the herd. Whether it is today or tomorrow, one thing we know for sure: the herd will always run itself right off a cliff.
Dr. Brad Klontz, Psy.D., CFP®, is a financial psychologist, an Associate Professor and Founder of the Financial Psychology Institute at Creighton University Heider College of Business, a Managing Principal of Occidental Asset Management (OCCAM). and co-author of five books on financial psychology, including Mind Over Money: Overcoming the Money Disorders That Threaten Our Financial Health.
You can follow Dr. Klontz on Twitter at @DrBradKlontz.