Why emotions should never play a part in important investment decisions [video]

Discover the financial side-effects of hormones and emotions

    Don’t make important investment decisions when you’re stressed

    Expert research shows how certain hormones affect our emotions and have a negative effect on our financial decision-making. In this fascinating interview with cognition scientist Dr. Ed Roberts learn why we make financial mistakes when feeling stressed or over-confident.

    Keep calm for the best financial outcome

    Robin Powell: Hello there. A key attribute for a successful investor is self-awareness. As the famous value investor Benjamin Graham once said: “The investor's chief problem—and even his worst enemy—is likely to be himself.”

    The issue is partly emotional. Investors are prone to several behaviour biases which hinder rather than help them.

    But it’s also physiological. A study has found that stressful situations, and raised hormone levels, in particular, can make people take more risks.

    Researchers invited 142 volunteers, all of them students from the University of Cambridge, to play a stock market game, during which their hormone levels were measured. Male participants with higher levels of cortisol were more likely to take risks. Raised testosterone levels had an even bigger effect.

    Dr Ed Roberts: It increased risk-taking in riskier stocks, but it also was associated with the participants being more optimistic about the way these stocks would increase in price, so they just thought these stocks would go up more than when they were on the placebo. So it means that they were taking more risks because they were more optimistic about the future. Which is quite interesting because testosterone might be changing your perceptions of the future, so although the information is the same, you think "No, I think things will be better in the future.", therefore it’s logical to take more risks.

    RP: This research has important implications for investors. If you use active fund managers, remember that they work in highly pressurised and competitive situations. Most tend to be male and many of them are relatively young. So they’re likely to have higher testosterone levels anyway. Bear in mind, that could result in them taking more risk than you’re comfortable with.

    Also, you yourself should avoid making big decisions regarding your portfolio when you’re feeling under pressure.

    ER: The critical thing is to be aware that these factors do have an effect, so stress has an effect on your decision making, and testosterone would, so in terms of being overconfident, these are factors that do change your behaviour and they don’t, on the basis of our experiment, bring you any more returns.

    So that’s sort of the critical thing, if you want to make the best financial decisions, you want to be in the right frame of mind to make those, and being stressed or highly overconfident, irrationally exuberant, those aren’t the best conditions for that.

    RP: Remember, too, that having a rational and unemotional adviser can also help. Investment decisions are very important. A good adviser will always ensure that the client is in the right frame of mind to be making them. Thanks for watching.

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