In order to invest effectively, we need to master our emotions. Behavioural finance gives us great insight into tendencies of investor behaviour that can negatively affect investment returns. The behaviour gap refers to the under-performance of investments due to the effect of emotions on decision making, specifically market timing. Most credible research on individual investors suggests that the behaviour gap can reduce returns by an average of between 1% and 2% per year, although this can be substantially higher, says Peter Nieuwoudt, Director at The Wealth Corporation.
The three primary effects of our emotions on our investment decisions are loss aversion, inertia and myopia. With loss aversion, we tend to care more about what we stand to lose than what we might gain. For example, despite the best laid financial plan, our tendency towards loss aversion can bring us to choose to invest too conservatively, even though we know this decision will mean that we will not get the return on investment required to meet our financial goals.
Inertia is the reason we tend to either choose the most convenient route, or do nothing at all. We feel overwhelmed by the complexity of saving and investment decisions and the number of variables involved. For this reason, we either choose to defer the decision or we choose the option that’s easiest to comprehend, even when we know this may not be the best option for our circumstances.
Myopia refers to our inability to imagine our future selves some decades further along the road. When the future seems less like a reality to us and more like an alternative universe, we’re less likely to prioritise our future needs and desires.
For this reason, many of us only start saving for our retirement later on in life, at which point we have missed out on taking advantage of the power of compound interest, the so-called “eighth wonder of the world”.
The solution to this conundrum is to find a financial advisor who can assist you by building a financial roadmap to the future you want, and who will walk that road with you, with the strategic patience to reach your goals. As experts in retirement readiness, we understand that planning and preparing for retirement is an exciting prospect and a daunting one as well.
The Wealth Corporation’s advisory solution offers a complete view of the retirement planning and management process, looking at all aspects of financial and personal well-being. We call this process Integrated Insight.
To learn more about behavioural finance in retirement, please join me at The Wealth Corporation’s retirement-readiness seminars in Durban, Sandton, Pretoria and Durbanville between the 8th and 11th of June 2015. Visit www.welcometomorrow.co.za for more details.
About The Wealth Corporation
The Wealth Corporation was founded in 2001. Since then, they have experienced considerable growth and gone through many changes, including the establishment of a national footprint and their partnership with Citadel in 2012. They have a proud history as being thought leaders in the industry, developing best practice in client service and advice processes and leading by example. Their advisory solution offers a complete view of the retirement planning and management process, looking at all aspects of financial and personal well-being. This process is called Integrated Insight.