5 Psychological traps harming your financial future

Market trends aren’t the only factors affecting your investment portfolio—behavioural biases can significantly impact your returns. These psychological tendencies, like confirmation bias and herd mentality, often lead to poor investment decisions.

Behavioural biases are mental shortcuts or blind spots that can mislead us, even when our choices seem rational. Understanding the most common biases and their impact on our investment decision-making is crucial for achieving a better financial future.

1. Confirmation Bias

Confirmation bias means that we seek out information that confirms existing beliefs or investment decisions while ignoring contradictory evidence. This can lead to a lack of diversification and increased risk exposure. For example, a person who holds significant shares in a company might ignore all negative news about that company.

2. Overconfidence Bias

This bias leads investors to overestimate their ability to predict the market or pick winning shares. It can result in excessive trading, higher transaction costs, and lower returns.

3. Loss Aversion

People always feel the pain of losses more acutely than the pleasure of gains. As a result, investors may hold onto losing investments for too long in the hope that they will rebound rather than cut their losses and reallocate their capital.

4. Anchoring Bias

Investors often fixate on a particular piece of information, such as the price at which they bought a stock and use it as a reference point for future decisions. This can prevent them from adjusting their strategies in response to new information or changing market conditions.

5. Herding Behaviour

Herding behaviour occurs when individuals follow the actions of others instead of making independent decisions. This behaviour can lead to exaggerated market movements driven by mass sentiment rather than fundamentals.

How can we overcome behavioural biases?

The good news is that you can manage your behavioural biases and minimise their impact on your portfolio.

1. Awareness

Becoming aware of behavioural biases is the first step. This awareness can help you identify triggers that lead to biased thinking, enhance self-reflection to question your instincts and reactions and improve your ability to regulate emotional responses like fear and greed, which often drive biased decisions.

2. Stick to a plan

Create a clear investment plan based on your goals and risk tolerance. Regularly review this plan to stay on track and avoid impulsive decisions.

3. Get different opinions

Don’t rely on just one source of information. Seek out different perspectives and understand the reasoning behind recommendations. This helps you see the bigger picture.

4. Review regularly

Schedule regular reviews of your investment portfolio to ensure your investments are aligned with your goals and adjust for any changes in the market or your life.

Investing can be challenging, especially when dealing with behavioural biases. This is where a financial adviser can be incredibly valuable.

Advisers provide expertise and objectivity, helping you navigate and overcome these biases. They guide you through a disciplined investment process, regularly review your portfolio, and offer diverse perspectives to ensure better decision-making.

Working with a Financial Adviser can help you confidently navigate the complexities of investing and achieve your goals.