This week, I’m talking about behavioral finance to help you understand how your psychology and biases influence your money decisions. 

Today, I’m talking about one of the most important concepts in behavioral finance - loss aversion. Loss aversion is a bias that most of us share. It states that we often feel more extreme and negative feelings over losses vs. the positive feelings we feel about gains. 

Using gambling as an example, you’re actually still likely to feel the pain of loss even when you come out ahead. If you win $1000 and then lose $900 in the next hand, it feels like a net loss even though you are actually ahead by $100. 

Loss aversion is a problem because the pain of loss can drive us into emotional and bad decisions. If your portfolio drops by 10% or 20%, you may be tempted to panic and sell, because the pain is too great.

I had a handful of clients call me this past March when the fear and uncertainty of Covid was at its peak. The stock market was in freefall, millions of Americans were projected to die, and the economy around the world had just come to a complete stop. And the pain of loss and fear over future losses was just too much to stomach any more. 

Conversely, when you see your portfolio is up 10%, 20% or 30% like it probably has been since March if you stayed invested, you’re much more likely to react like “meh, that’s nice”. 

In order to overcome the loss aversion problem, the first step is to recognize that you’re wired to experience losses in a much more extreme way compared to how you’re wired to experience gains. Just understand that you and I and everyone else is prone to feel worse about losses than we feel good about gains is an important first step. 

A second and important next step, especially if you have made decisions in the past based on your own loss aversion, is just to find ways to avoid the temptation to feel bad in the first place. For your retirement portfolio, this means tracking your portfolio value less often. If you look at your portfolio everyday, you’ll see losses all the time. If on the other hand you only look at your portfolio balance a few times a year, you’re much more likely to see a gain and not expose yourself to the pain of loss and fall victim to the behavioral finance blunder of loss aversion. 

That’s it for today. Thanks for listening. My name is Ashley Micciche and this is the One Minute Retirement Tip.

---------

>>> Subscribe on iTunes: https://apple.co/2DI2LSP

>>> Subscribe on Amazon Alexa: https://amzn.to/2xRKrCs

>>> Check out our blog: https://truenorthretirementadvisors.com/blog/

----------

Tags: retirement, investing, money, finance, finances, financial planning, retirement planning, saving money, personal finance, wealth management, money tips, fee only financial advisor, financial planner, financial podcast, retirement podcast, financial independence podcast