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Investor – Don’t Succumb To The Action Bias!
This behavioral bias, known as the “Action Bias”, has scarred many an investor over the years.
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From goalkeepers to Wealth Managers to individual investors, it would appear that the clear majority of us stand uninsulated against our own innate tendency to spring into action at the drop of the hat. This behavioral bias, known as the “Action Bias”, has scarred many an investor over the years. In other words, we love quick results just as much as we love instant noodles. And not just that; we loathe to be seen ‘doing nothing’ with our investments.
It wouldn’t be unfair to say that today’s mercurial investor suffers from an affliction called “Investment ADHD” (Attention Deficit Hyperactivity Disorder”); studies in the U.S have indicated that the average holding period for a stock has plummeted to an inconsequential six months (from 7-8 years in the 1950’s and 1960’s). From my own experience as an Investment Adviser in India, I can safely vouch for the fact that for the bulk of our so-called stock market “investors”, even six months constitutes “long-term”. Bring on the BTST calls, baby!
Unfortunately, there’s not much that drives price movements of assets such as equities in such short timeframes - barring news, and price action. For any time-horizon not exceeding one year, the lion’s share of price movement is derived from random fluctuations. Over a five-year period, though, 80 per cent of returns accrue from the ‘real stuff’, namely; earnings growth, coupled with the price you paid for the security. How, then, can any investor expect to consistently make returns if they are constantly lured into witless action by their own behavioral tendencies?
Mutual Fund SIP’s – passive? Long Term? Only until markets go awry
While many well-intentioned retail savers kick things off with resolve and tenacity, starting off goal based Mutual Fund SIP’s (Systematical Investment Plans) for their long – term objectives (such as their retirement of child’s education), they often metamorphose into more action oriented investors somewhere along the way; to their detriment, usually. When markets play spoilsport for a few quarters, or those dark forebodings come wafting out of the TV channels; all that deep understanding about Rupee Cost Averaging and long term returns from equities goes out of the window. “Don’t just sit there, do something!”, these clients then frantically advise their advisors! When advisors preach the importance of “hanging in there” to these clients, their previously displayed tenacity all too often turns to pugnacity!
There’s a ‘double whammy’ effect in play when it comes to the Action Bias; it appears to be bolstered even further by losses or poor portfolio performance. In other words, an individual investor who has lost money in an investment, or who, during an innocuous dinner table discussion, has discovered the irksome truth that his neighbor’s portfolio has outperformed his own handsomely, is more prone to ‘act’. Talk about a snowball effect of underperformance leading to more underperformance.
Learn from the best
Patience and discipline are, of course, the obvious antidotes to the disease of Investment ADHD. If investment opportunities are unavailable, don’t forcefully act out of boredom or compulsion. If your SIP investment returns are dormant for some time, don’t feel compelled to change something just for the sake of it – evaluate before acting. Unbegrudgingly sit on large liquid fund positions if required – cash is an investment too! Warren Buffett Advises investors to, in baseball parlance, “wait for the fat pitch” instead of swinging wildly at just about everything. Seth Klarman says that “it’s OK to do nothing and wait for opportunities to present themselves”. Paul Samuelson professes that “investing should be dull, like watching paint dry or watching grass grow”. George Soros asserts that "If investing is entertaining, if you're having fun, you're probably not making any money”. These masters of the trade have understood the golden rule that when it comes to investing, passivity is strength; action is weakness. You should, too.