People who find themselves suddenly having to make significant investment decisions often feel overwhelmed, confused, or even afraid. They fear making costly mistakes which could jeopardise their financial futures. In most cases, fear stems from lack of information, understanding or experience which undermines confidence in making the right decisions. These emotions can bring about the very thing that is feared – that is, costly mistakes. Learning to invest is a bit like learning to ride a bike. When you first get on a bike, never having ridden before, your fear of falling off means you ride slowly with your feet ready to touch the ground, so you are much more likely to fall. Once you learn to proceed confidently with your feet firmly pushing the pedals, you have a quick, smooth ride with a low risk of falling.
Fear can lead to procrastination of decision making, or inertia. The cost of not making an investment decision or delaying it is the opportunity cost, which is the investment return that could have been achieved if the decision had been made earlier. Fear can also lead to panic decisions after an investment has been made, which can result in actual loss or in opportunity cost.
On the other hand, some investors are over-confident which means they take on high risk that can lead to disastrous consequences. Somewhere in between are those investors who stick to a narrow range of investment options they are familiar with and who lack the confidence to step outside that range. This means their investments can lack diversification resulting in increased risk or opportunity cost.
Investors often behave irrationally, without logic or reason, driven by emotion. In the words of author Jason Zweig, “Investing isn’t about beating others at their game. It’s about controlling yourself at your own game”.