Two biases investors should guard against

BEHAVIOURAL science has shown that loss aversion – a strong preference for avoiding a loss over making an equivalent gain – and recency bias – our tendency to attach more significance to recent events than to events in the past – are inherent behavioural biases that all of us share. These biases are often all too evident in how people approach investing.

“Given our loss aversion and recency biases, it’s easy to understand that heightened uncertainty and disappointing investment returns may have tempted investors to switch out of investments that have recently performed poorly, or to exit the market completely,” says Anet Ahern, the chief executive of PSG Asset Management.

“However, staying the course improves the odds of favourable longterm investment outcomes,” she says.

Research has shown that most investors are notoriously bad at market timing. This means that investors who disinvest to try to lower their risk, run the very real risk of missing out on a potential market recovery. By selling when prices are low, investors may lock in losses, particularly if they only re-enter the market once prices have already started climbing.

“While we know that it’s incredibly difficult to act against ingrained instincts, a long-term mindset and consistent approach are critical to investors achieving their desired objectives. We recognise our responsibility both to apply these principles.”

Ahern says that one way to encourage investors to stay the course is through consistent, clear communication that helps them to understand their fund manager’s approach, and how they are addressing risk.

She says that managers who look at the world differently know that panic presents opportunity.

“We often note that the best opportunities are found in times of fear and uncertainty. Moments of panic invariably result in the prices of quality companies and securities falling along with the rest of the market.

“While it may be difficult or feel uncomfortable at the time, capitalising on these low prices creates the potential for outsized returns once the panic passes.”