This bias is making you execute badly on your investments

What sabotaging stories are you telling yourself?

Hi,

Ever thought about what stories you tell yourself about your investments?

Even if we are being the most meticulous and rationalising our investment as much as possible, we will always play a story about it in our heads.

We did something risky, so to make ourselves feel good and safe we “rationalise” dreaming up a story that we made a good decision.

We dream of the soon to be success scenario.

This is not bad. Stories are an integral part of human nature and our evolution. It used to be how information was passed through generations to prevent making the same mistakes over and over.

But you know what is bad? An old boring story turned irrelevant.

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What if the story you dreamed up about that investment has turned irrelevant?

Let’s play a game.

Pretend that yesterday you bought a gold bar for $1,000, and we know that gold is considered a time safe investment.

Today I’m offering you $500 for it. Would you sell it? Hell no.

What if I showed you the current market price which has fallen to $250, would you then sell it? Most likely not, you paid $1,000 for it, it is supposed to be a good investment, the price will go back up eventually.

Now imagine 10 years have passed.

You probably don’t even remember what you paid for that gold bar. It is actually quite cumbersome because you cannot use it for anything and besides, the stock market tends to perform better than gold and is more exciting.

You check the price of gold and could get $500 for it.

I offer you $600, would you sell? Probably yes, now you just want to get rid of it and you are getting better than market price.

How often do we struggle either buying more of or getting rid of a position because we cling to an old story we have been telling ourselves about the asset?

Back when I started investing in the early 2000s I clinged on a flatlining Toyota stock for 5 years because I was telling myself the story that hybrid cars would pick up and a company with a world famous efficient manufacturing process, not to mention being the largest car manufacturer, would make it a winner.

More recently in 2018 I made the same mistake buying Medipharm Labs Corp, a Canadian pharma company focusing on cannabis related products. I identified the stock as a match for a short term strategy which made it a winner in my portfolio, but then instead of selling I fell for the story of cannabis being more accepted and even legalized so figured the stock could be a long term play. I eventually sold at a major loss as part of a portfolio transfer and tax optimization stunt, turning bad to good, but only because I needed to move my portfolio to another business and was facing a large tax fee. I might have clinged on to it for longer otherwise just because of the story.

What happened in these cases is that instead of referring to up to date data, I was referring to the story behind the investment and initial data.

The story I was telling myself was blinding me.

Worse, as the investment goes bad, we tend to seek the comfort of the story, convincing ourselves we still made a good decision and that things will turn.

The reason is the anchoring heuristic, also known as anchoring effect, first theorised by psychologists Amos Tversky and Daniel Kahneman, the latter winning a Nobel Memorial Prize in Economics in part for this work. We tend to use the first information received to make decisions in the future even when the information is well in the past.

These days I do note the general story for investments, but I couple it with data and every time I do my investment routine, checking my positions, I get the newest data and ask myself: why would the story not hold up anymore?

If the story got old, it is time to execute so we don’t get stuck.

So what’s the story morning glory?

Have a good one,

Chris

Originally posted 22nd January 2023 on ElliottSays.com

Thank you for reading! :)

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