Investing and Judaism
In honor of Hanukkah this week, we’re taking a look at a fundamental principle of Judaism and how it relates to investing — even if you’re not Jewish.
But this applies to other market participants as well. They’re also subject to the same cognitive biases, though some may have biases that are stronger in them than they are in you.
So for example, you know about the endowment effect, where the fact that you own something makes it more valuable to you. Might someone who is selling a stock be overvaluing it? The market often takes care of this kind of bias relatively quickly.
But what about your neighbor at the barbecue who starts telling you all about the penny stock they just bought, whose stock price is rising? Is it possible they see the stock as more valuable than it actually is, just because they bought it themselves? (Yes.) And if so, do you want to take this person’s word for how valuable it is and how it’s going to shoot up like a rocket? (No.)
Broken crystal balls
I know I’ve hammered at this one before, but no one is able to forecast the future exactly. You might say that you think the stock market will rise this year. You have a 50% chance of being right. But if you say it will rise by 10%, your chances of being right are significantly lower.
So if you hear someone on the teevee claiming that the market is going up 10%, how likely is it that they’ll be right? Not very. And it doesn’t matter if they claim to have studied economics, or they work at a big bank. They don’t know either. So should you listen to them? Even if they’re really loud? No.
How likely is it that someone who is paid to have an opinion about a stock actually has an independent opinion on it?
Suppose the company Flipplfloppl was paying you to talk about their company on your show. In all honesty, how likely are you to claim it’s a terrible company and no one should buy their products? Even if that’s how you really feel about it? If you work at Flipplfloppl, are you going to go on the news show and tell the audience that your company is headed down the tubes and everyone should bail out of the stock?
So, should you buy a product that someone is hawking on the teevee? Maybe! But only if you do your due diligence. If you and/or your financial advisor determine that Flipplfloppl’s growth prospects are good, and it fits into your investing plan, then you can buy their stock.
You know that basing your portfolio on your emotions is a pretty bad idea. Investing requires more objective thinking. Your guts are not a good substitution for research. No matter what the current occupant of the Oval Office claims.
Other people (who are not sociopaths, anyway) have emotions too. Let’s say your neighbor recently bought up a bunch of rental property and took out an adjustable rate mortgage to do so. Just like a bunch of other people on the block or at your workplace. Might they be feeling some FOMO? Or some greed?
Or, say the stock market is declining. Or everyone is claiming the stock market is imminently in danger of declining (like they have practically every year since 2010). Your parents are telling everyone to dump their stocks and move to cash (paying nothing). Or bonds, paying slightly more than nothing, but still pretty close to nothing. Might they be feeling afraid?
Remember that other people are real! They likely have the same real issues and emotions that you do. But being aware of them can help prevent you from making an investing mistake. This helps you filter out the noise so you can make objective decisions about your portfolio.
Alternatively, you can take the time to talk to or find an advisor before you make any decisions… which is a very good decision in and of itself!
Which bias can you spot in your friends and family?
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