Making Rational Investment Decisions

Bias can have a powerful effect on our decision-making process when investing in unit trusts. If someone tosses a coin 10 times in a row and each time it lands on heads, then what would your choice for the 11th toss be? You may assume that the trend continues and call heads or, believing the trend will buck, you choose tails. Statistically though, there is still a 50% chance that it will land on either heads or tails.

Bias is the reason most of us tend to choose either heads or tails. When we are presented with information, we tend to interpret it according to our personal biases. Our biases and our reaction to the information may prove detrimental when we apply it to investments.

As a counter example; consider an opaque bag containing 50 white and 50 black marbles. If 10 black marbles were removed from the bag, what colour would the 11th marble be? Most of us would say white since the probability of picking out a white one is higher (50 of the 90 remaining marbles are white) than picking a black marble. Unlike the example of the coin toss above, the information we are presented with between removing the 1st and 10th marble is relevant in guiding our choices for the 11th marble.

Emotions may hinder investment success

Heuristics are shortcuts our minds develop that allow us to analyse information and rapidly make decisions. They make our lives easier, but may also lead to errors in judgement.

Scientists have identified over 100 behavioural biases. These include: Confirmation bias, which means we search for information to support our views or beliefs and over-extrapolation, which occurs when we depend too much on a particular piece of information. The more common biases we all experience are fear, overconfidence and greed.

These biases may affect your behaviour, and therefore your success, as an investor.

A good example is the investor behaviour surrounding the global financial crisis. In South Africa, the stock market yielded returns of close to 36% per year for the 5 years prior to the crash in 2008. This lured investors in droves. Many investors paid overly inflated prices, by investing at the top of the market. Then followed one of the worst sell offs in market history. Approximately R9 Billion was withdrawn from property unit trusts and equity in the first three quarters of 2008 as fear-gripped investors exited the market. This meant that investors locked in their losses.

Try not to lose your head

Investors who remain calm during times of uncertainty are often rewarded for their patience. An investment at the peak of the market in May 2008, would have incurred significant losses by November 2008. But this is not the full picture as the market recovered 2 ½ years later and any investors who did not succumb to their emotions made back any losses and, in absolute terms, more than doubled their money by September 2016.

Don’t toss coins, pick marbles

Many people who invest use the same heuristics as they do for the random coin toss. This often results in a poor outcome. However, assessing information and using it where relevant (i.e. the marble in the bag approach) tends to yield better results.

How can we overwrite these biases? Believing the investment philosophy developed by your investment manager and understanding the unit trust you invest in makes it a bit easier to sit through market fluctuations. This allows you to benefit from the upswing when it does come around. Rational thought over emotional response is vital to a successful investment.

Find an investment strategy that is tailored to your needs, risk tolerance and time horizon. This will help take the emotional element out of your decision-making. Long-term strategies should not change if markets are volatile. An independent financial advisor can help you stay focused on your goals even when your emotions threaten to overpower you.

 

8 Ways to Save Money While Still Enjoying Life

With the tough aspects of the economy and job market, it seems like everyone is looking for new ways to save money. Many money-saving articles center around cutting unnecessary expenses out of your life and while this is necessary for some people, not everyone wants to go the minimalist route. If you want to find ways to save money without completely cutting “non-essential” purchases out of your life, there are several things you can do. Here are some ideas.

1. Find Free Alternatives

Before purchasing items, see if you can find a free option first. Borrow books from your local library instead of buying them. Use resources such as freecycle and craigslist to find local sources for free items. It’s also important to participate on the giving side as well. Giving away items you no longer want or use frees up space in your home and reduces time spent cleaning and maintaining things.

2. DIY

Of course one of the best (and greenest) ways to save money is to do things yourself instead of buying stuff. DIY can mean many different things depending on your needs and skill set. There are a number of things people commonly call upon and pay services for that you can simply take the time to do on your own. For example, doing your own yard work, performing general basic maintenance on your home, washing your own car, and even cutting your own hair are several ways to eliminate ongoing costs each month. With so many internet resources showing how to do things, it’s easy to learn a new skill.

3. Repurpose

Rather than buying disposable items and throwing away things you no longer want or need, start thinking of ways to reuse and repurpose items. This can take many forms. You can save money on fertilizer by composting your kitchen and gardening waste. Another idea is to use worn or ill-fitting T-shirts as cleaning rags or to make rugs. Many sustainability and homesteading blogs and resources have ideas for repurposing and reusing a variety of items.

4. Work Together

Working with your community can be a great way to pool resources so everyone gets the maximum benefits for the minimum contribution. A community garden is one example of this. Another example is forming a rotating babysitting or carpool group with friends who have children of similar ages. By splitting the workload between a large number of people, everyone can save both time and money on common chores and services.

5. Take Advantage of Loyalty Programs

Rather than giving up your daily latte or frequent movie dates, save money with loyalty and rewards programs. Nearly all restaurants, theaters, and other entertainment providers have some form of membership or loyalty rewards programs that offers significant savings. Many programs allow you to keep membership information on a smartphone so you don’t need to worry about cluttering up your wallet with membership cards.

6. Buy and Use Gift Cards

Many retailers and restaurants offer incentives for buying gift cards. If you have several places you frequently shop or eat, buy gift cards and take advantage of the bonuses. Some grocery stores even offer bonus rewards points or other benefits with gift card purchases so you can save money on your weekly shopping as well.

7. Find the Best Deals on Devices

Cell phones, television, and the Internet are services we use every day, but there are several ways to cut costs without sacrificing the quality content you enjoy. Research online subscription streaming services or cable packages that cater to the channels you watch and find the best deals by comparing multiple TV providers. The Internet makes it easy to research current cable subscription rates and cell phone plans, so you can determine which company offers the best value for your needs and budget.

When you are trying to save money, there are many things you can do that don’t involve simply cutting out unnecessary expenses. Being proactive and putting effort into learning new skills and eliminating routine expenses by being more hands on is one way. You can also research providers and find loyalty rewards programs to get the best deals on goods and services you regularly use.