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Investing

Heartbreak investing and how to get over it

February 6th, 2017 by

Are you holding onto heartbreak in your portfolio?

 
 
 

Nothing brings out the feral nature of some women like a designer sample sale. If it’s Chanel, elbows up! When I worked in fashion publishing, every few years Chanel hosted a sample sale exclusively for those lucky few. Whatever warrior skills one had deployed to land these plum jobs, they were nothing compared to what was required at these sales. It was not uncommon to see women scooping up entire racks of clothes in their gym-toned arms and disappearing into the change room, or yanking dresses out of others’ hands hissing, “that’ll never fit you”. 

Usually I left these sales empty-handed and traumatized. However, one year I managed to acquire a pale green wool dress embroidered with beads and sequins to give a mermaid effect. It cost $100, a tiny fraction of its original price. I wore it exactly once. Many years later I finally admitted that, with my now more casual lifestyle, I would probably never wear the dress again. A luxury consignment shop offered to sell it for $1,500. And there it sits. If I were willing to slash the price to $200, it would sell in a flash. I would break-even— but it would feel like a loss, and that would hurt.

Loss hurts

There are a couple of things happening here and they’re the kind of cognitive errors we all make, whether the investment is a $100 Chanel dress or 100 shares of General Electric. They are endowment bias, anchoring and loss aversion

We get emotionally attached to our possessions and tend to overvalue them. The thinking goes, “This is my Chanel. Therefore it’s special. I should get top dollar for it.” (Clearly the universe disagrees.) I’ve anchored the resale value at $1,500 and I’m reluctant to stray too far from it. In this case, even though my “book value” was $100, and (judging by the envious looks when I wore it), I got at least $100 utility value from it, I’m clinging to the idea of a $1,500 sale price. I would rather do nothing than sell below the marked price, thus crystallizing a perceived loss of $750 after commissions.

Loss aversion is among one of the most pernicious cognitive errors. Potential losses loom far greater in our minds than potential gains. A classic loss aversion study that involved our cousins, capuchin monkeys, showed that when the researcher gave the monkey two apples but took one back, the monkey grew to hate the person. (Receiving just one apple was no problem.)

One investment writer has likened loss aversion to the star-struck lover who hangs onto a poor relationship hoping for things to improve. Studies in neuroeconomics show that expecting an outcome, whether it’s a gain or loss, is far more emotionally intense than the actual experience. Yet, it’s this fear of loss that drives many investors to crystallize their gains by selling winners but hanging onto the losers in their portfolios. After a loss, investors become even more risk adverse. This explains why post-2008 many people were reluctant to invest in the equity markets and stuck with low-yield money market products, thus missing out on large gains. 

Gaining mental clarity

With the growing popularity of online trading, more investors are falling prey to these common biases to the detriment of their ability of accumulate wealth. But there are tricks to gain greater awareness of our mental foibles. According to Jason Zweig, author of Your Money and Your Brain: How the New Science of Neuroeconomics Can Make You Rich, one way to gain greater clarity is as simple as changing our body posture. Straightening our arms and pushing them against a desk or other surface gives us more mental space to think twice before making a decision. Alternatively, like Halston, the late American designer, we could refer to ourselves in the third-person to gain some perspective. 

Let’s try it: “Rita is going to do a couple of downward dogs to clear her thinking. Anyone out there who wears a French size 38? Have I got a deal for you.”

 
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Jul 28 2017 1:59am
 
 
 
 

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