Wednesday, August 27, 2008

Unbiased Investing in a Turbulent Stock Market

From various studies, it has been found that investors have a number of biases that could negatively affect their investment performance. This entry is to remind myself not to make any of these mistakes especially in the current condition of the stock market.

1. "Holding on to Losers too long and Selling Winners too Soon"

I have been prey to this mentality. Believing that the stock is "fully" valued, I would sell it to make a profit believing that I can buy it at a lower price again sometime later. Very often the price of the stock just goes up and does not come down! Holding losers too long on the other hand is just waiting for the stock price to go up again, thinking that the day will come when everyone will realise how undervalued that stock is.

2. Confirmation Bias

This is being overconfident in the forecasts of growth companies which cause an overestimate of nearly everything. Investors would tend to overemphasize all the good news and ignore or explain away any negative news. Investors thus look for information that supports their prior opinions and buying decisions.

3. Escalation Bias.

This involves putting more money into a losing stock to average down the cost of owning it. The thought is that it if it was a buy at $1, it surely must be a superb steal at $0.50. The alternative would be to reevaluate the stock to see if any news was missed out and sell it if necessary.

This are the 3 mistakes that I must learn not to make in this current bear market. And this blog entry serves as a reminder for me not to throw in all my money into stocks that I personally think are "grossly undervalued".

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