Why judges, investors and advisers shouldn’t make decisions on an empty stomach

  • How market turmoil and panic is affecting investor behavior;
  • The impact of emotional decision making on the value of the investment;
  • The noise in the investment world and its impact on advisors and investors;
  • How to fight investment noise.
  • The four most dangerous words in the investment world may well be “this time is different”. When it comes to making investment decisions, consistency is essential and making emotional decisions in response to extraordinary events often destroys market value for investors.

These are the warnings of Paul Nixon, head of behavioral finance at Momentum Investments, during a media webinar, who unpacked the findings of the Momentum Investments and Oxford Risk Noise and Investment Advice Study.

“Momentum’s white paper on the Covid-19 Investor Behavior case study certainly provided very clear insight into the detrimental effect that market turmoil and panic can have on investor behavior. Of course, market conditions in 2020 were somewhat different from what investors had experienced before. The headlines led with stories that felt almost post-apocalyptic and there is no doubt these fueled investor fears. Yet when it comes to stock market crashes, the past year has not been so special. ”


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Yet some investment trends from the past year have certainly demonstrated the effect that emotion can have on the market. About R100 million were lost and 6.5% of the value of investments destroyed on average, as investors shifted to low-risk investments in response to market volatility linked to Covid-19 between April and December 2020. Investors’ savings and investment strategies have unnecessarily suffered significant setbacks.

“In addition, 11,608 switches were made on the Momentum Wealth platform of at least R1,000 or more. The average value of these switches was slightly above 150,000 R1. In March 2020, the number of switches climbed almost 300% from January 2020. Overall, there was a separate “risk reduction” strategy in March and April. Of course, that was followed by a very quick shift to a “risk on” strategy – but the problem here is that people have completely missed the recovery. ”

As Nixon explains, investors typically adhere to one of five patterns of change behavior that often dictate how they would make investment decisions, especially under stress. “These archetypes include assertiveness, anxiety, annoyance, avoidance, and the market timer. While we have delved into these types of individuals and their decision-making processes on various occasions, it is important to note how the market trends of the last year really made these archetypes stand out. For example, it can be seen that the majority of investment changes in the last year were made by avoidant type investors, but anxious investors lost the most because they need a lot of confidence before re-entering the markets. and, in this case, have missed the market recovery altogether. ”

Of course, the launch focused on Momentum investments | Oxford Risk Noise and Investment Advice study, which also shed light on some interesting facts about the effect of subjectivity on the advisor.

Greg Davies, Behavioral Science Manager at Oxford Risk, says this study is the first research to be done with such a business organization. “One subject that is becoming particularly topical for advisers in particular is the notion of ‘noise’. While you want to eliminate as much of the bias as possible from the advice that a business might give to its clients, there may be variation in the advice that the individual adviser gives to individual clients (possibly influenced by factors such as emotion). However, it is essential that the advice received by each individual client remains as close to their specific objective needs, and not to the characteristics of the adviser. Consistency of advice is also of critical importance to any consulting firm. This is why it is so vital to be much more aware of noise and how to combat it.

One of the interesting findings of the study was that conventional methods of giving risk to individual investors are subject to quite a bit of noise. “Study counselors were asked to assign a level of risk to each client, on a scale of one to five. We found that while the clients remained the same, the assigned risk levels tended to vary significantly from advisor to advisor. Equity allocations for these clients also varied, with clients at risk level three, for example, being allocated equities representing 75% and 10% of their portfolio. This appears to be a high level of variation. ”

Davies says the study results provide several remedies for inconsistent behavior and reduce the risk of such large variations in the counseling process. “The answer to many of these problems is to recognize that processing a lot of data and coming up with a consistent response is not something that we humans are very good at. At the same time, any customer situation must involve huge amounts of information. If there is no system to capture this information and come up with a reliable response, we will always see noise creeping in. If we are to do this better, behavioral technology will need to play an increasingly important role in how investment firms test their strategies and decisions. ”

That said, Davies says research into the noise in the investment world is just getting started. “We think the financial industry still has no idea how big this problem really is – that’s why more of these types of studies need to be done,” he concludes.

In conclusion, he says there are many lessons to be learned from the nationwide lockdown period that would be helpful in creating a better investment atmosphere. “Ultimately, we are likely to face similar periods of uncertainty in the near future. It is therefore important to start recognizing noise when we see it, and to adjust our approach to counseling accordingly, ”he concludes.

Paul Nixon, Head of Behavioral Finance at Momentum Investments.

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