Thursday, 12 August 2010

Exploiting Laziness, Procrastination and Conformity in Investing

Yup, no kidding! Those seemingly negative qualities can be exploited for investing success. The objective is to modify, control and direct our own mistakes through various strategems, tricks and techniques. The last few decades have seen tremendous advances in the field of behavioural finance and economics, which has documented the myriad errors of thinking and emotion that cause the downfall of an investor.

That knowledge can be turned into action to make the right decisions and stop doing the wrong things. But it isn't so simple as recognizing the fault and saying you will or won't do something. The "just do it" or "just say no" approach rarely works. Below are some techniques that go a step beyond and are much more likely to work. Most are taken from the books listed at the end of this post.

Being Lazy is good if you put things on autopilot through:
  • Automatic payroll deduction and transfer to your investment account, using even very small amounts if necessary. It is much harder psychologically to write a cheque today than to commit to the deduction tomorrow. One of the worst problems of investing is that people actually tend not to get around to diverting funds from current spending. The earlier in life the money is put to work, the more the long term effects of compounding can operate and the greater the end value at retirement.
  • Automatic investment in mutual funds and some ETFs, such as Claymore's, to get the money to work, instead of merely sitting in cash waiting for the investor to make a purchase.
  • Automatic dividend reinvestment, either through mutual funds, through ETFs such as BMO's and Claymore's, or through the online broker for individual companies which have DRIP programs. As this previous post showed, the reinvested dividends are one of the main sources of long term investment returns. This previous post explained DRIPs.
Procrastination will help if you,
  • Wait 24 hours after you have made an investment decision before implementing it, whether it is a buy or a sell. The idea is to let the sense of urgency, the emotion drain from the situation because the emotion will overpower your reason and prevent you from thinking rationally. It may still be the right decision and if it is, it will still be correct the next day. Whatever you lose from the one-day delay will be more than made up from avoiding the bad results of rash decisions.
  • Park money received as a gift, a work bonus, a tax refund, an inheritance into a bank savings account or money market fund for a week, a month or even longer until it starts to feel, as it will over time, like every other one of your hard-earned dollars. You will be much less likely to spend or invest it recklessly as if it was found money in a special category that isn't as valuable as earnings from work.
Being a Conformist can provide the benefit of leading you to,
  • Take the middle course by investing in index mutual funds or ETFs, which by definition will return the market average (minus a very small amount for fund management costs). You won't do better but you won't do worse either.
  • Do what all experts and advisors suggest and develop a written investment plan (see our previous post on the topic here). Such a plan will give the confidence to weather investment storms and the fortitude to resist temptations to jump into the latest hot investment company or sector. That will mean less trading and hopping about from one company or fund to another, which has been shown to significantly reduce investor returns. Writing it down is a key step since that will raise the personal buy-in. This factor and the previous point can combine to exploit the so-called sunk cost fallacy, a usually-negative factor which keeps people putting more money into an obviously failing project. Sunk cost behaviour will keep you putting more money into temporarily losing asset classes and index funds.
Books with these and other useful techniques
Disclaimer: this post is my opinion only and should not be construed as investment advice. Readers should be aware that the above comments are not an investment recommendation. They rest on other sources, whose accuracy is not guaranteed and the article may not interpret such results correctly. Do your homework before making any decisions and consider consulting a professional advisor.


Patrick said...

I have another one for you: the moment you get a raise, bump up your paycheque withdrawal by the corresponding amount (after tax). Then procrastinate as long as you want about what to do with the raise, secure in the knowledge that the longer the wait, the more your savings grow.

CanadianInvestor said...

> Patrick, both laziness and procrastination at the same time! Pretty good!

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