Could these eight simple steps improve your investment decision-making?
It’s generally worthwhile reviewing your investments periodically – not just focusing on the performance, but also the processes behind it.
Markets will always move up and down, but they tend to be best navigated by investors with clear minds and processes.
The following eight tips could help you sharpen your investment thinking, in both benign and volatile environments.
1. Clarifying your goals
A good first step is to clarify why you want to protect and grow your wealth. You should review your finances and existing investments to ensure they are aligned with these goals.
Clarity in your overall objectives, agreed with or communicated to an adviser, can make it easier to align investment decisions to them.
2. Having a plan
In recent months, financial markets have been relatively calm with many equity markets setting record highs. But sentiment can turn quickly, even without the lingering uncertainty of the COVID-19 pandemic in the background.
Having a plan in place can be particularly useful in keeping you anchored during difficult market conditions, when investing may be tougher emotionally. It’s a good idea to nail down your rationale, timelines and rules for what actions to take in different scenarios.
During 2020, those that stayed invested – tolerating some short-term pain while maintaining a long-term view – probably came out in the best shape. And as history shows, stock markets have always recovered from these market shocks.
3. Cash considerations
Holding on to cash is understandable. You could be nervous about the markets, want some kept away for a rainy day, or you may just prefer the idea of having instant access to your wealth.
Yet, cash sitting in a bank account runs the risk of earning little or no interest – with inflation eroding away its real value over time. It’s therefore not a bad idea to check that your cash is being put to good use.
Holding cash (as an investor) for opportunistic reasons may have merit, but the success of timing tactical deployments only really comes with hindsight. More likely, cash will end up sitting on the sidelines for much longer than an investor anticipates – missing out on investment returns, which have historically outperformed cash (albeit past performance is no guarantee of future performance).
4. Expecting the unexpected
A global pandemic that left economies and businesses counting the costs is an event that few investors predicted. But unexpected events don’t make the world more uncertain. They simply show us how uncertain it already was.
Portfolios should always be prepared for negative shocks because swings in the value of investments can occur extremely quickly. A diversified portfolio of quality assets, built to perform in different conditions for the long term, can be a good antidote for periods of heightened uncertainty.
Implementing a process that can withstand changing market conditions may make it easier to stay invested and reap the benefits of time in the market.
5. Rethinking risk
In most newspapers and business websites, we very often see potential risks to economic growth and financial markets discussed. For many investors, risk is synonymous with volatility.
However, while volatility can be uncomfortable, it may not be the most material risk for investors.
When putting capital to work to achieve long-term goals, the most material risk is decision-making, or outcomes, that stop you from reaching these goals. By keeping a primary focus on your goals, you can think about market events in the context of whether and how they affect them.
6. Recognising your biases and emotions
It’s when markets look most precarious that our behavioural instincts can lead us astray – potentially leading to poorer long-term decision-making.
Having a decision-making process that’s both systematic and focused on identifying biases, can help to reduce the impact of irrational thinking. Delegating decision-making to investment experts with tried and tested processes and good track records may be advisable.
7. Patience is a virtue
To improve the chances of improving overall returns, it can make sense to follow a robust process that balances long-term thinking – where you generate your core investment returns – with more reactive and opportunistic short-term tweaks to your portfolio.
Patience is key to improving your chances of more successful, long-term investing. Behavioural studies back this up; showing that performance usually suffers through overtrading.
8. Try to see through any distracting ‘noise’
We often attach great importance to vivid events that affect us personally; an evolutionary trait designed to protect us from harm. In the face of uncertainty, we use rules of thumb (heuristics) that have provided us with rapid and effective decision-making throughout our evolution. Unfortunately, this can bias decisions if some information is overweighed at the expense of all other information.
For those seeking to protect and grow their wealth, active investment strategies that focus on quality and companies that are well-positioned for long-term trends seem a sensible approach. When it comes to investing, every year provides risks – and opportunities – to be capitalised on by investors looking beyond the headlines.