What You Know May Hurt You: Investment Biases
We all bring our own biases from our life experiences to any decision, whether it’s our health, jobs, politics or our money. If your money biases are in the driver’s seat, they may have adverse effects on our wealth in the long run.
Here are some examples of common biases: In our experience, individual stock ownership by residents that live in close proximity to or work for a locally based corporation are often higher. Sometimes that may work out if the company is very successful and that is reflected in their stock price. In other cases, owning local may work the other way. However, the perception that people living near or working for a corporate headquarters know more about the future direction of its stock price has the potential to be a very dangerous bias. Many examples over the years illustrate this point. Enron and the stock holders that lived near or worked for the company come to mind.
Another bias is that of home country. Though the US is the largest economy in the world, it is certainly not the only economy in the world that presents investment opportunity. Beyond investment opportunities that exist in other parts of the world, adding non US based companies also adds diversification to a portfolio that may help returns over the long run.* In our opinion, we think some American investors forget the ability we have to “own” companies from the far reaches of the world through mutual funds and ETFs.
Sometimes our own work experiences cause us to take action on our personal investment choices. It seems the more success investors enjoy themselves and with their friends and family, the more willing they are to take on investment risk. The opposite seems to be true as well. Suffering through the loss of a job and being surrounded by poor economic conditions may lead many to feel the same is true for everyone, everywhere.
Finally, prolonged periods of low investment returns may also make it feel like that is the only logical long term view. Many prognosticators see continued low returns for the future. ** They may be correct, obviously the future is truly unknowable. However, it may be important to keep in mind that over the past 15 years the US stock market has only returned approximately 3% on average, as opposed to its long term average of 10%. ***
The importance of recognizing personal biases may have a big impact on one’s success as an investor. For most people, having a long term relationship with a financial planner who you trust to identify your biases may help you keep moving toward your goals, despite your biases.
*Vanguard. Global equities: Balancing home bias and diversification 2014
**Barron’s: Expect Five Years of Slow Growth, Tepid Returns 7/31/15
***Advisor Perspective. Doug Short January 2016