Deep dive into investor emotions
June 9, 2022
This week, the 'TPP Midweek Commentary' takes a deep dive into 'investor emotions' and how they end up being counter productive.
In a world of figures, your emotions will let you down. In fact, other people’s emotions will often present opportunity.
At The Portfolio Platform, we regularly get asked many of the same questions and we like to take the time to answer them. We feel that educating clients is incredibly important, especially when what we do is so specialised.
Most IFA’s out there will send you a biannual update telling you just enough about your investment to keep you happy.
The truth is, they don’t want you to ask questions. Almost all of them will be negative so far this year, they don’t want you to call, as all they can say is that ‘the market is down’.
Most offload the actual investment to ‘platforms’ like Aviva so they make very few decisions themselves at all. Their job is to simply bring in more money, ours is to make you money.
We take responsibility for our platform and our results. On top of that, we are traders ourselves, so we know and understand the market. We won’t be able to answer your questions about life insurance, mortgages, or tax, it’s not what we do. You pay for us results, and that’s all we care about.
Trading is a very complex and difficult job. Many investors thought it was easy and over the last couple of years, self-investing has become quite common. However, most have now learnt their lesson.
It is official, retail traders are now down money from the start of the big post-pandemic rally. It’s easy when it goes up, but very difficult when it goes down.
In the same time period, our traders on TPP are up an average of 63%. Yes, it has been tough for everyone recently, but limiting losses in the bad times, and capitalising on the good times, is what sets us apart from the rest.
How do we do this?
We’ve been doing it for so long now, that sometimes, we forget that our users don’t always understand how the traders make the money they do.
The first thing to note, when looking at trading and how to make money, is that there is no crystal ball. It’s extremely hard and nobody knows when the market will turn one way or the other; put all the information you have together and make the most informed decision you can.
Have a strict set of rules, when to get in, when to get out, and stick to them. If you fall foul of your emotions, you will make the wrong decision.
It is for this reason, that we don’t allow any communication between investors and traders like you find on social sites; if we did, the most commonly asked questions would be, ‘why didn’t you sell higher up?’; closely followed by ‘why didn’t you buy lower down?’ and interfering like that can do a lot of damage and make us second guess ourselves. It is why social trading platforms like eToro will always lose your money.
68% of retail investor accounts lose money
Source: eToro’s own website
When most people want to get in, that is often the time to get out. When they want to get out, we often want to get in. Buffett’s wisest words were, ‘Be fearful when others are greedy, and greedy when others are fearful’. In short, your emotions will make you buy high, and sell low.
An obvious fact I’ve already alluded to is that no trader has a crystal ball. This is often forgotten, and while we have a better idea than most as to what the market might do, nobody ever picks the top, or the bottom so don’t bother trying.
If you are looking at your equity balance on The Portfolio Platform, and it is lower than it was yesterday, you might wonder why the trader didn’t sell out.
To many this is a silly question, but if you haven’t traded before, you might not realise why.
The simple fact is, the trader didn’t know what was going to happen the next day; if they had, they would have sold. That’s it.
Traders are not magicians, and their knowledge will lead to profit over time, but not every time and account balances do not move in a straight line.
You have to bear in mind that you are ALWAYS looking at a portfolio with the benefit of hindsight and hindsight is unquestionably the best trader of all. The fact is, nobody knows whether it will go up or down from one day to the next.
It's very easy to say, ‘I would have done this’ or ‘I would have done that’, but when you are making the decision, you aren’t looking at the past, you are looking at the present, and often, you can find reasons to both buy and sell.
Traders make decisions based on the most likely outcome which will result in profit more often than not. It’s a game of percentages, not certainties.
Buying at the low, or selling on the high, might happen on occasion, but I would liken it to a golfer getting a hole in one. They could hit the same shot 50 times, and once, it might go in, but the more likely result is, they will get it close, and that is good enough.
Most trades need to be right, not perfect, and occasionally, we lose a ball, but over time the averages play out in our favour.
A strategy could trade by the same rules, be hugely profitable, but might never get the top, or the bottom.
A trader must forget about the ‘holes-in-one’. It happens, but it’s not what makes the best golfer, or in this case, the best trader. It’s all about averages.
At TPP we look for traders who perform consistently, over time.
At The Portfolio Platform, we select our traders carefully. We aren’t looking for anyone to make huge returns in a day, or a week; we want returns year on year.
We want investors to make money, every year, but we know full well, that during that year, there will be winning trades, and there will be losing trades.
One of the problems we have created for ourselves, is by being so transparent. Our users (you) can always see their positions and the overall value of their accounts. The reason this is dangerous, is the same reason 80% of retail (not professional) traders lose money: emotion.
To be a profitable trader, you have to trade without emotion. It is these rules that make the ‘Strategy’. By implementing an algorithm, you are doing the most important thing of all: taking emotion out of the equation. It is the single most common reason that self-investors and inexperienced traders lose money.
Leave your emotions out of it. It’s a game of numbers and facts.
Every time an inexperienced trader places a trade, there are 3 emotions that will set in at one point or another: greed, fear & regret, and any of these is powerful enough to overcome logic.
With experience, they can be controlled, without it, this is what you will feel:
You place a trade, it goes up in value, it even reaches the level you wanted to sell at, BUT, you get greedy and think “How much MORE can it go up?”, “This is just the beginning, if I just hold onto it a little bit longer I’ll make even more”.
It doesn’t matter if it keeps going up for a bit. You made what you wanted to make, so take the profit, pat yourself on the back, and wait for the next one.
If you don’t sell out and it goes back down, you won’t have made any profit at all, even though you were right!
Remember that people will only tell you about the winners. Take Bitcoin as an example, we’re hearing a lot less chatter from Bitcoin investors now that it’s dropped so much. People rarely tell you when they’re losing money.
Only liquidated profit, is real profit, until then it is hypothetical. The stock could drop back down and make nothing. You need to book a profit for it to be realised.
Another common mistake is increasing the investment because it’s going well, rather than selling out. If it went up for the very reason you bought it, then the trade worked, sell out.
If you are simply buying more because it’s going up, you could lose your profit twice as quickly.
If you buy 10 shares at £20, and it goes up to £28 as you had hoped: you have made £80 (10x£8). If you then get greedy and think, ‘this is easy and it’s working, I’ll buy another 10’, it now only needs to drop to £24 for you to have lost all your profit (20 x £4 = loss of £80).
In this case, even though you were right, and the share went from £20 to £28, you haven’t made a penny. Even at £24, the shares are higher than when you bought in, but you haven’t made any money.
In fact, if the share drops back down to what you originally paid for it, you’re actually now down £80, rather than up £80, because you got greedy.
Every trader knows this one well, no matter how experienced. This one has controlled the market over the last few months. Consumer confidence is at an all-time low and investors are pulling their money out of the market. Markets panic. Do we sell out or buy more?
Nobody can be sure, but in time, there is a good chance stock indices will eventually be worth more than they are today, due to the fear in the current market dissipating in time.
Take out the fear, and prices would be higher, therefore, the logical answer would be to buy. It might not happen tomorrow, but trading for tomorrow is a fool’s game.
It’s managing that fear and knowing how and when to ignore it, that will make profit. Having a strict set of rules helps override this fear. I will buy at £20, and I will sell, if it gets to £28.
Knowing this, whatever happens in-between isn’t important. The only thing that might change, is the world around you and if this means that your model suggests getting out of the trade because the variables are different, then get out, don’t be proud.
BUT, don’t change your mind based on an emotion, base it on information.
The fear of losing money can cause you to sell the stock as soon as it goes down in value. Nobody likes losing money. If you pay £20 for the stock, you cannot expect for that to be the cheapest it gets while you hold it. That would be the stuff of legend. It will almost certainly get to a lower level, but you paid £20, because you believe it will reach £28 in time.
If it hits £16 first, you might sell because you now fear losing more money. Fear might make you sell, but the stock still reaches £28 at a later date. You were right, but you lost money.
The fear of loss is a much more powerful motivator than potential profit. If it wasn’t, insurance companies wouldn’t exist.
FOMO, or fear of missing out, is such a common phrase it has become a well-known acronym. Everyone is buying this stock and it’s gone up; ‘I will buy it as well even though I have no information suggesting it is cheap’.
This has fuelled the retail market over the last year or two and leads to an inflated stock price that will eventually, always, fall back down. If the move has already happened, you have missed it, move on. Don’t succumb to FOMO.
Lastly, we have regret. This one we hear all the time, people regret buying a stock, people regret not buying a stock, selling too soon, not selling soon enough. And then they think they won’t make that mistake next time.
If we use the same example as before, you buy a stock at £20, looking for it to reach £28. Then it gets to £28 a month later, you do the right thing according to your model, and sell out. It then goes up to £32, at which point, you regret selling out too soon and now you’re missing out on profit, so you buy back in.
The stock now only needs to drop to £24 for you to have lost all your profit from the initial trade.
This works similarly on the downside. You buy the stock for £20, but it drops to £16. You regret buying it so you sell out because you fear losing more, it goes back up to £20 at which point you regret selling it out so you buy it back………and so on.
In short, without experience, and without knowing what you want from a trade you’ll be riding an emotional roller coaster every time, and you won’t make any money. Around 80% of those who try, fail. It isn’t a game, and it isn’t easy.
Buying the bottom and selling the top, isn’t a real thing. Be happy with profit and keep looking to build on that profit. Small gains over time, make bigger gains.
We have selected the best traders we can find:
Our traders are not in it for the short term, it’s about long term profit. It’s not about ‘the big short’ or a ‘quick million’. They have rules and risk parameters, and we make them stick to them, in fact, our system won’t let them break them.
Some days strategies will lose money; this is normal and expected. Don’t look at the days, or sometimes even the months, funds are judged on annual performances, as being right can take time. We judge our own traders over the same time frame. Chasing short term yield, can be dangerous.
Now that you are on The Portfolio Platform, you can see every trade that is made. You will experience many of the emotions I have described, but rest assured, our traders know what they’re doing and over time, their profits speak for themselves.
Right now, fear has made the markets volatile as the economic world adjusts to what we are seeing. Fear will always provide an opportunity to buy equities, because it’s an emotion affecting an economic valuation. Buying when things are cheap will make money. Waiting for fear to leave the market, and buying once stocks have gone back up, will not.
Have faith in the figures. Our performance records cannot be faked, they are 100% accurate and verified and we stand by our traders.
If you haven’t started your journey with us, and would like more information, please contact us here.
Enjoy the rest of your week, and if you'd like to schedule in a call, you can do so by clicking here.
“TPP might just be about to revolutionise investment for the retail market.”
- London Stock Exchange 2020