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Investor psychology: what's your attitude to risk?

Sponsored: Finance isn’t just about figures: human behaviour and psychology are behind up to 80% of investments

According to many financial professionals, behaviour is the largest single reason for poor investment decisions. The instincts that keep us alive can also work against us in the world of finance. That is why investment professionals assess their clients’ risk profile.

In fact, the basic human emotions of greed and fear have driven investor psychology for centuries. One example that gripped England in the 18th century is the South Sea Bubble. It was one of the earliest recorded market crashes and gave rise to the term ‘stock market bubble’.

In 1720, there was euphoria surrounding shares in the South Sea Trading Company, and the investors included one of the most influential scientists of all time, Sir Isaac Newton.

Sensing that the market was getting out of hand, he sold £7,000 of his shares, netting a 100% profit. However, seeing the price continue to rise and his friends’ profits with it, he couldn’t help himself and reinvested at a higher price, eventually selling out and losing £20,000 (equivalent to £3 million today).

He famously stated that he “could calculate the motions of the heavenly bodies, but not the madness of the people”. And for the rest of his life, he forbade anyone to say ‘South Sea’ in his presence.

There have been countless books written by investment gurus on the art of successful investing. We know that we should buy low and sell high, but most people do exactly the opposite because they become emotionally involved when it’s their own money.

Let’s face it, if a right-brained genius such as Sir Isaac Newton couldn’t control his emotions when investing his money, what hope remains for the rest of us mere mortals?

So, if you do want to take the emotion out of investing, take heed from the words of US investor, entrepreneur and philanthropist Warren Buffet: “We simply attempt to be fearful when others are greedy and to be greedy when others are fearful.”

With this in mind, here are some investment pointers:

  • Avoid the latest ‘hot tip’, whether it’s technology stock, gold or the London
  • property market. By the time everyone is talking about it, the smart investors have made their money, are taking their profits and moving on.
  • Never be frightened to take profits.
  • Don’t be tempted to cash in when the price falls. Remember it is a ‘paper loss’ and by cashing in you will crystallise that loss. Hang on in there and in most cases the price will pick up as markets enter the recovery phase.
  • However, it’s important to recognise that sometimes a bad investment is a bad investment and you just have to cut your losses.
  • Think long term. Don’t try to time the markets, but understand that it is more to do with time ‘in’ the markets.
  • And if you feel that making your own investment decisions is just not you, ask a professional adviser to recommend a diversified portfolio designed to match your risk profile and investment objectives.

The Fry Group Belgium provide pension, wealth and retirement advice. They regularly run retirement planning workshops, which help people identify their magic number. They can help structure investments to provide tax-efficient withdrawals in retirement.

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