The classic battle between good and evil is often played within us. Our minds are jostling to figure out the right way to move forward, overcoming fears of failure. Stock market investing is a mind game about risks. Your ability to manage them makes you a successful investor. But your mind plays games too. You hate losing money. So, when your favourite stock is underperforming, you tend to wonder whether it was the right choice in the first place. You ask yourself if it was worth the risk.
As an equity investor, you know the path is fraught with risks. These could be related to financial performance, inflation, interest rates and currencies. While on the one hand, you are prepared to take them, you also want to minimize your losses. So, you choose diversification. You put your money into multiple asset classes or put in equity-linked funds.
However, you hate failing more than winning. That is a human tendency. Notional losses make you cringe. There are instances when you see the share prices of your favourite companies at peaks. You regret selling the stock earlier or wish you could have picked up more shares in the past. Similarly, when the share prices of companies you own fall, you hate the slump, even though it could be temporary.
The aversion to loss makes you avoid investments that, in the long-term, could create significant wealth. Two European economists published a new paper in August 2022 highlighting that loss aversion and risk aversion are two different things. They concluded that risk and loss aversion are complementary in capturing investor preferences.
The study by Dennie van Dolder of the University of Essex and Jurgen Vandenbroucke of the University of Antwerp found that loss aversion is strongly related to education, with higher-educated individuals being more loss averse. Individuals who work hard for money want to get on top of the knowledge to drive it. However, finance is not a subject that everyone can master quickly. Those who dabble in the stock market with knowledge steer clear after a couple of losses.
The other factor the study throws up is risk aversion based on gender, age and financial situation. That puts women, senior citizens and less affluent people together. Risk aversion is a common theme in India. Only 7-8% of individuals in India have direct exposure to equity markets. The size of the mutual fund industry also has significant growth potential as it barely accounts for 15% of the GDP.
Technology could bring a change to the scenario. We have already seen a dramatic increase in demat accounts as the new age of fintech companies makes account opening a breeze. The surge in the number of bank accounts and the backbone of the Aadhaar network will also help you fight the loss aversion bias. Modern algorithms can analyse data at a speed never heard of and beyond individuals’ capability. That will enable you to make prudent investment choices. Alphaniti is one such enabler! Wondering how to go about it? Here’s where we come in with our platform at www.alphaniti.com to help you take charge of your investments to make investing easy for you!
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