One ends us investing in tried and tested products due to investment biases
It’s the year-end and it is also the tax-planning season. My sessions obviously have a lot of queries relating to Section 80C for tax saving. And despite all the noise about adoption of mutual funds, I find that 60-70% of the participants still prefer investing in investment-linked insurance over equity-linked savings schemes (ELSS) or even Public Provident Fund (PPF) simply because they believe that these policies give the highest returns with little or no risk. Moreover, they are willing to lock in money in an endowment or unit-linked insurance plan (Ulip) but not in PPF.
This is because of investment biases people have. In the above case, investors continue to invest in investment-linked policies simply because they are familiar with these investments and fear losing money in other investments. Decisions about money are mostly not taken rationally and there is a tendency to let our emotions overrule logic. In most cases, despite knowing why one should be choosing another investment, one ends up investing in tried and tested products due to investment biases.
For example, real estate is still the most preferred investment for most investors simply because of their false sense that nothing is likely to go wrong with real estate. This is because they are biased by an existing conclusion that with real estate, one cannot go wrong. The same bias also applies to those buying traditional insurance.
Unfortunately, these biases are hard-wired and overcoming them is a big challenge. Further, with the overload of information available, investors find it difficult to focus on the relevant information. With market-linked investments, individuals feel they are not competent to understand how these investments work and hence stay away. The anchoring bias or relying just on some specific information is another issue. For example, with mutual funds, investors base their decisions on the current net asset value (NAV) rather than whether the fund ties in with their risk profile or is suitable for their investment horizon.
People are also influenced by where others in their circle are investing. Every individual at some point is influenced by family members or colleagues or friends, on their financial choices. To the extent that even if an individual has made the right decision, an influencer may put him down. I have come across so many cases, where women are questioned about their financial decisions by those who may not have knowledge themselves.
Investors always blame market volatility for their losses, but in most cases it is an error of judgment while choosing investments or wrong decisions during the investment period that actually lead to losses.
So how can you overcome your investment biases and prevent yourself from being your own enemy?
Educate yourself: Educate yourself on the various investment products and how they work. Most people who buy investment-linked insurance do not realise that the sum assured is just not enough to take care of the family needs in case of an eventuality. Self-awareness is important to bust myths like all mutual funds do not invest only in stocks. There are funds which are less volatile and can be invested into for various goals.
Take out time to make financial decisions: View money management as something that allows you to live your life the way you want instead of looking upon it as a chore.
Create a financial plan: To actually be able to be financially secure, it is important to keep out the noise from the markets, influencers and create a financial plan. Unless you have a financial plan in place, you wouldn’t know the right financial choices for your goals. I had a client who wanted to invest into a second property without realising that he would have very little left to be saved post EMI, for children’s education or retirement. A financial plan is your money map and will guide you towards choosing which investments you need to make versus those you want to make.
Learn from your mistakes: Mostly one loses money not due to bad luck or market volatility but because of not choosing the right instrument for the investment period. Analyse why you lost out. Is it because you panicked on a market correction or invested into something without understanding the working of the product?
Build in accountability: Unless you are accountable to someone, you will keep following the same investment biases. Normally, one decides where to invest and convinces oneself about it. Have someone play the devil’s advocate who can challenge your decisions.
How about the above for a new year resolution?
Mrin Agarwal is a financial educator, founder director of Finsafe India Pvt. Ltd and co-founder of Womantra
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