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Physiological Biases That Make Investors Become Irrational

In: Business and Management

Submitted By Daf92
Words 1085
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Every single investment requires decision making. The result of decision making without certain planning might not end well. One cannot simply make a decision by relying on his/her personal resources as the decision may give an impact to the investments. It is difficult to make decision which is related to the field of investments. Investors have to consider their risks, market condition, rate of return, and others in making their investment portfolio. However, there are many possible physiological biases that make investors become irrational thus making bad decisions for the investment.
Illusion of Money
This bias refers to investors making decisions based upon nominal terms and not real terms. It means that the confusion between the real and the actual changes in money. Why will this happen? This will happen because the investor lack of the knowledge in finance. They only will see the money that can get by them but never accounting the inflation and the time value of money. As an example, an investor invests their money in a bond and it will yield 10% in the future. It sound attractive but we are get nothing when the inflation are also 10%. This kind of investment will mislead the investor that lack of general knowledge in finance becomes irrational thus making bad decision for the investment.
First that is overconfidence. Overconfidence obviously mean in overtrading or switching between investment accounts in an effort to increase returns. Overtrading will lead to sell losers at low prices and buy winners at high prices. However, it cost high transaction costs, high tax liabilities and the possible of selling out of the market just when investment performance rises. There is a solution for this, first investors should measure carefully keep tracking of own investment returns and trading costs. Investors should consider their expectation for…...

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