Investment Pattern Behavior Analysis

The concept of Homo Economicus considers us as rational, aware and self interested persons.

And under such assumptions we attempt to maximize the utility as a consumer and economic profit as a producer.

In the practical world none of us behaves even close to the assumptions of such rationality, especially when it comes to our investment pattern behavior. It is interesting to observe that our understanding of the value of money changes as per our environment or the stimulus.

I would like to share two scenarios where you are a consumer in one and investor in the second. Be honest in your responses before reading the answers to evaluate your investment pattern behavior.

A.    With a limited shopping budget and a credit card in the wallet:

1.      If there is a discount of 10% on a pair of shoes worth Rs 5000 shoe and 25% on a pair of shoes worth Rs 8000 which one will you chose?

2.      You want to buy a shirt but there is only 10% discount on one shirt but 20% on two shirts and 30% on three shirts. Which offer will you take?

If, in any of the above cases your response is the second or third option, then you must realize that you over-stretched your budget. Buying at a discount is perceived a sensible decision but if we calculate the amount of money spent then we will find that it was higher than what we actually had. And having a credit card led us to behave under House Money Effect.

B.     In the case of your investments:

You bought a share of company called Imperial at Rs 500 one year ago and the share price is now at Rs 1000. Similarly, you bought a share of company, Regalia at Rs 2000 one year ago and the share price is now at Rs 1000. Now, if you immediately need Rs 1000, which share would you sell?

Do you want to keep the share of company Regalia in the hope of covering the losses? If yes, then you have just exhibited a bias of Loss Aversion.

Creation of wealth is fundamentally a function of your emotional responses. Your natural psychological preference determines your investment pattern. In short, the way you do something is the way you do everything! You need to watch out your behavioral response to protect and grow your wealth.

In case you are not satisfied with the amount of money you have accumulated by now. Or, you are not happy with the returns generated by your portfolio. Or, if you see any danger of missing or delaying of your long term goals like buying a house, then you must reflect upon the following questions:

1.      How aware are you of your investment decisions?

2.      How shielded are your investments from your emotional responses?

3.      How would your goals suffer due to your emotional bias?

If you are buying when the market is high and selling when it is going down then you are doing nothing more than chasing a high return story. An ideal solution is to identify the errors in judgment and to stop repeating them. Get aware of your risk profile and align your asset allocation to it. In no case should you allow your advisor to change your asset allocation.

Discipline in investing allows us the greatest of opportunities to create wealth. I believe the S&P BSE Sensex will touch one lakh points someday. Do you? And if you do, then are you invested enough to make the most of it?