Q&A: Your emotions are probably costing you, market researcher says

McClatchy-Tribune Information Services

March 17, 2014

Armed with mountains of data, reams of corporate filings and advice from professionals, investors often rely on a range of emotions to make financial decisions ó whether they realize it or not. And those underlying feelings can present roadblocks to rational investing.

During a presentation for wealth managers in Garden Grove, Calif., speaker Frank Murtha described a scenario in which an investor gets cold feet. The market has dropped to a point where the investor previously said heíd be comfortable buying some stocks, but heís nervous and tells his investment adviser heíd like to hold off. When the market goes back up, the investor is angry he missed out on the opportunity to make money.

"There is nothing more emotional and less rational than the relationship that people have with their money," Murtha, who holds a doctorate in counseling psychology, told the audience at the CFA Instituteís wealth management conference. His firm, MarketPsych LLC, conducts behavioral finance research and consults within the financial industry.

Murtha sat down with the Orange County Register to discuss behavioral finance.

QUESTION: What are the main emotions that drive investors?

Answer: Fear is by far the most dominant emotion, and it affects peopleís investing more than anything else.

Q: You were explaining the difference between fear and panic in your talk earlier. Could you review that?

A: Fear is anticipatory. For example, when youíre standing on the edge of a boat, you might have a fear of drowning. "I donít want to fall over the side." Panic is, "Oh my gosh, Iím drowning. What do I do?" And one of the things investors can do is have mechanisms in place (to deal with) the natural anxiety thatís going to be part of this process because thereís risk. You can have guardrails so that you donít find yourself slipping off into panic, getting caught unprepared, unaware without a plan. Because those are the panics that we see in the market, and thatís where massive amounts of wealth get lost.

Q: What are some examples of guardrails?

A: One guardrail is the ability to work with somebody other than yourself ó a professional. It doesnít even have to be a professional per se, but a trusted person who has wisdom and your best interests at heart. Otherwise, youíre much more at risk for wandering off the path and falling prey to your own fears and biases. I think having cash (on hand) is essential. Cash is control. The ability that you know you can act. This money is available. I can take advantage of situations and I know I canít lose it. A sense of control is essential to combating fear, and cash is one way to get that.

Q: Is there an emotion you see playing out more post-recession now? Or is it still fear and anxiety for the most part?

A: Fear and anxiety, certainly. I think one of the biggest emotions out there post-recession, post-banking crisis is a desire for redemption. People want to make up for the losses and I think thatís a trap people fall into. They lost some money; they got frightened out. They werenít able to take advantage of the upswing the way they wanted, and theyíre stuck with this sense of regret and a desire to get back what they lost. And it sets people up to take a really bad risk down the road (to compensate). Itís part of a pendulum swing that really gets investors. A sense of regret.

Another one is a sense of loss. You lose more than money when you lose money. You lose your sense of well-being, your vision of the future. You almost have to go through the five stages of grief to get back to a point where youíre healthy again with it. I know there are a lot of investors out there who havenít gone through that process to get back to the point where they can have a healthy relationship again with their money.

Q: If theyíre still stuck in loss, how does that play out in their investing?

A: You have to reach a point of acceptance. When youíre at the point where youíre like, "I gotta find a way to make up for this," or youíre saying, "Iím done," thatís not necessarily healthy either. If youíre not using your money in a proper way, youíre not going to be able to reach your financial goals, in all likelihood.

Q: Is there anything else you think it would be important for readers to understand?

A: The market is a form of peer pressure. The price of stocks is determined by how much your peers, other investors, like it. If they like it, it drives the price up. If they donít like it, it drives the price down. So how do you overcome peer pressure? The same way you overcame it when you were 16 years old: You develop a sense of who you are so that youíre secure enough that you donít feel the need to bow to peer pressure. Then you can put together an investing plan that fits who you are in your much healthier place. I think that the most important thing investors can do is do the work necessary to develop a sense of an investor identity.