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Learning to Mistrust Your Financial Instincts. Psychology of Investing.

February 13, 2012|Uncategorized

An interesting article in the New York Times highlights how our own psychological makeup can impact our decisions about investing and money.

Learning to understand how emotion and beliefs can affect our decision making might help some make better financial decisions.

Excerpt:

PEOPLE’S intuition is often wrong when it comes to investing. We often buy when we should be selling, or focus on red herrings. So are there ways to overcome these tendencies?

After a flood of research in the growing field of behavioral economics, we know the answer is yes, although doing the right thing with money involves recognition and discipline.

Many tenets of prudent financial decision-making can be found in the work of Daniel Kahneman and his acolytes. Professor Kahneman’s best-selling book, “Thinking, Fast and Slow,” Farrar, Straus & Giroux, 2011 opens up some new vistas on human behavior that can be applied to our worst investing mistakes.

Professor Kahneman, a psychologist who won the Nobel Prize in economic science in 2002, has turned classical economics on its head in many ways, noting that it is folly to engage in day trading or to think you have an advantage in picking securities. Investors don’t always act in their own best interests and are consistently led astray by emotional motives and cognitive errors, he said. Overconfidence is a bugaboo.

“People have little idea, by and large, of the investment world,” Professor Kahneman said. “They are convinced they have an advantage.”

One of the most common errors investors commit, he has found, is making bad decisions simply because of the overriding fear of loss, an important concept of the so-called prospect theory he pioneered with his fellow researcher, Amos Tversky, who died in 1996.

via Learning to Mistrust Your Financial Instincts – NYTimes.com.

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