Investor psychology: Overcoming biases
1. Identify your biases.
2. Know why you are investing.
- Avoid vague goals, such as: I want to be comfortable
when I retire.
- Set specific goals, such as: Since I will receive
$20,000 annually in Social Security and retirement benefits, I'll
need $55,000 in investment income. I will need $800,000 in principal
to generate that much income.
3. Set and stick to quantitative investment
- Positive earnings
- Maximum P/E ratio
- Minimum annual sales growth of 15 percent
- Minimum of five years of being traded publicly
- Own different types of stocks and funds.
- Own very little of the company you work for.
- Invest in bonds.
5. Control your investing environment
- Check your stocks once a month.
- Make trades once a month and on the same day of
- Review your portfolio annually, and compare it
with your specific goals.
- Consider setting some play money aside. Set up
two brokerage accounts, one for the bulk of your wealth and another
that allows you to aggressively trade a small portion of the total.
6. Other rules of thumb
- Avoid stocks selling for less than $5 per share.
- Chat rooms and message boards are for entertainment
- Set a goal of earning the market return.
- Before placing a trade on a stock that does not
meet your criteria, remember it's unlikely that you know more
than the market.
- Review your psychological biases annually.
Madness: How Psychology Affects Your Investing ... And What to Do
About It by John S. Nofsinger.
-- Updated: May 11, 2004