Brandes U.S. Advisors|Behavioral Investing- A Series of Thoughts from the Brandes Institute

Behavioral Investing: A Series of Thoughts from the Brandes Institute

Over the past several weeks, COVID-19 worries have surged in investors’ minds. Building on the behavioral investing tools we have developed, we offer several suggestions to help counter the rising sense of panic and fear created by market volatility and non-stop media coverage. Some of what we share may look familiar. Over the years, we have partnered with academics and psychologists to develop a broad suite of materials designed for investors to put behavioral finance principles into practice and maintain a rational, long-term perspective amid emotion-driven market swings.

To see more resources, visit our “Training the Investor Brain” site and videos.

Ignoring Your Gut and Staying Invested

March 19, 2020

In times of market volatility it is important to be wary of emotional investment decision-making. Instead, it may be best to take no action, remain invested, and maintain a rational long-term perspective. For more information on heuristics, see our video.

“The trick is not to learn to trust your gut feelings, but rather to discipline yourself to ignore them. Stand by your stocks as long as the fundamental story of the company hasn’t changed”7Peter Lynch

Looking for Opportunity in Difficult Markets

March 18, 2020

Prospect Theory states that losses tend to hurt at least twice as much as comparable gains feel good. During market downturns, it is tempting to make emotional investment decisions, but it might help to remember the wise words of the great value investor Benjamin Graham. For more information on Prospect Theory, see our video.

“Since common stocks, even of investment grade, are subject to recurrent and wide fluctuations in their prices, the intelligent investor should be interested in the possibilities of profiting from these pendulum swings.”6  –Benjamin Graham

Extrapolation and the Market Roller Coaster

March 17, 2020

The problem isn’t that investors can’t predict the future. The problem is that many investors think they can. A major facet of that problem is the bias of extrapolation. Extrapolation is the tendency to focus excessively on recent/present trends and project those trends will continue or even accelerate. It is a bias often produced by short-term focus and bad information.

Most investors have heard that investing in stocks can be like riding a roller coaster. (It’s certainly felt that way of late.) What most investors have not heard is that they are riding that roller coaster facing backward—and in the last car! That’s why extrapolation can be such a problem.

We never actually see where the market is going, only where it has been. But we tend to extrapolate based on that recent trend anyway. Like the person sitting in the last car of a roller coaster, facing backward—the recent course gives completely unreliable information about the future. The roller coaster may have already reversed the trend (i.e., up or down), but the rider has no way of knowing. Extrapolation can become an issue when market volatility and emotional responses spike and investors may feel compelled to act on extrapolation’s emotional charge.

Of course, the future is unpredictable. Don’t try to forecast it. We suggest investors work with a professional, create a custom plan and stick with it.

Planning Fallacy and Poodle Skirts

March 16, 2020

While a number of animals have shown the ability to plan for the future4, humans are unique in our ability to make detailed plans to achieve a visualized future state. 

But because we can visualize the future doesn’t mean we are always good at it. One of the chief issues is a bias called the Planning Fallacy, the tendency to underestimate the amount of time/money needed to successfully achieve objectives, including long-term financial goals. 

It is among the most consistent, predictable, and harmful biases. Here’s an example: 

Prof. Daniel Gilbert wrote about this in his book Stumbling on Happiness. He described visions of the future captured in books that were written during the 1950s. These books often featured pictures and stories of atomic kitchens, nuclear trains, antigravity cars and rocket ships amid futuristic cities. But some of the women in these pictures had bouffant hairdos, poodle skirts and cat eyeglasses. He wrote, “There are no skateboarders or panhandlers, no smartphones or smartdrinks, no spandex, latex, Gore-Tex, Amex, FedEx or Wal-Mart.”5 Often, we imagine the future through a narrow lens. Perhaps now that lens is sharply focused on COVID-19 and recent market ups and downs.

When we try to see the future from a narrow, emotionally driven perspective, we fail to appreciate that the stock market, like broader society, is a highly complex, adaptive system. The future likely will not look the way we imagine. The COVID-19 virus—and the market’s response to it—likely will evolve along with many other facets in our lives. While we may try to picture the future, we suggest focusing instead on the consistent application of investment principles designed to pursue long-term success.

Not Letting Day-to-Day Returns Dictate Long-Term Strategy

March 13, 2020

Prospect Theory states that losses tend to hurt at least twice as much as comparable gains feel good. The pain we feel losing $50,000 in the stock market can be twice as bad as joy we feel in making $50,000.

To show the importance of a long-term focus, we developed the Wheel of Investor Emotion. Here’s a link to a digital version. If you want hard copies, contact us and we will mail them to you.

In short, even portfolios with great long-term performance have shown negative returns—especially over shorter timespans (e.g., day to day). So the more frequently an investor looks at performance, the greater the chance of seeing losses. And those losses can trigger an emotional response that is disproportionately bigger than seeing gains. As a result, investors may feel that something is wrong with an otherwise fabulous portfolio.

This is why we printed “Keep Calm. Check Less.” right on the front of the Wheel. We acknowledge this tool is a little hokey, but it’s also been our most popular behavioral finance tool for more than a decade. If you have it, we invite you to use it. If don’t have one yet, ask us. 

Thinking of Timing the Market?

March 12, 2020

Extrapolation is the tendency to become overly focused on present trends and to believe that they will continue or accelerate.

It has been virtually impossible to predict future market moves, but that doesn’t stop us from trying! What’s worse, often we think we can make such predictions.

Our professional view on timing the market: don’t even try.

The Brandes Institute published research a few years ago on the dangers of trying to time the market. In short, when the U.S. market experienced volatility over the last 50+ years, the best- and worst-performing days for an entire year (or for decades!) often occurred within days of each other. For example, the S&P 500 Index fell 20.5% on October 19, 1987. Look at this table of returns that occurred within roughly two weeks:

Time the Market post
    Source: Yahoo Finance, 2020
Other periods of volatility have shown similar “clustering,” although not always to this magnitude. Again, timing the market has been virtually impossible—especially during periods of sharp market moves both up and down. A better course of action? Consider taking no action, and instead staying invested and focused on the long term.

Be Aware of the Power of the Media

March 11, 2020

While the media delivers useful information, it also can prey upon two, decision-making emotions: fear and greed. During market turbulence, investors may have the misperception that more information makes them better investors. That’s not always true. Overexposure to news can exacerbate emotions and trigger irrational actions. Checking the news a couple times a day may provide all the information investors need. Watching the news for hours each day likely will only exacerbate emotions—and that tends to impair decision-making. 

Understanding Availability Bias May Help Re-Establish Long-Term Focus

March 10, 2020

The news around COVID-19 tends to have two characteristics: 1) it presents a potentially frightening scenario, and 2) it has become a focus of media attention.

This combination is a prime recipe for creating one of the “Five Wealth-Destroying Biases,” the Availability Bias. The Availability Bias is the tendency to overrate the likelihood/impact of events that are more easily called to mind, i.e., psychologically “available” to us. 

Chances are investors have not been exposed to the virus, but they have been exposed to the media coverage. Consider these elements: has coverage of the event been 1) recent, 2) frequent, 3) relatable, and 4) emotional? In this scenario, we believe investors are well served by revisiting how the emotional effects of short-term market moves can make them question otherwise sound, rational, long-term plans. When investors understand the potential wealth-destroying effects of this bias, that understanding may help guide them to remain focused on the long term.

In short, Warren Buffett’s advice, “Our goal is more modest: we simply attempt to be fearful when others are greedy and to be greedy only when others are fearful,”3  has proven its merit throughout his successful career.

Anchoring to Points or Percentages?

March 9, 2020

In situations like the one created by the coronavirus (COVID-19), investors may not be sure what to think. That’s why anchoring (establishing points of reference to interpret data) could play a major role in emotions and behavior. But the type of anchor investors choose may make a huge difference.

For investors who anchor to point swings, 1,000-plus point moves in the Dow Jones Industrial Average (DJIA) may seem shocking. If investors anchor to percentage changes, the moves may seem much more mundane.

Consider an example from history. In 1987, the DJIA fell 22.6% in one day (October 19).

But how many points did the DJIA lose that day?


As of the March 4 close, if the DJIA were to lose 22.6%, it would have to fall more than 6,100 points.2

Focusing on point declines (or gains) can exaggerate emotional effects. It depends on the anchor. We suggest using percentage moves. It can be a subtle but powerful way to shift investor perspective away from short-term market fear back toward long-term goals.

1, 2 Source: Yahoo Finance. Dow Jones Industrial Average for the period 10/16/1987 to 10/19/1987, and as of 3/4/2020.
3 Source: Warren Buffett, Chairman’s Letter to Shareholders of Berkshire Hathaway Inc., Feb. 27, 1987.
4 Source:  The Atlantic, June 2, 2019.
5 Source: Gilbert, Daniel Todd. Stumbling On Happiness. New York: A.A. Knopf, 2006. Page 123.
6 Graham, Benjamin. The Intelligent Investor: A Book of Practical Counsel, 4th rev. ed., New York: Harper & Row, 1973. p. 95
7 Lynch, Peter. One Up On Wall Street: How to Use What You Already Know to Make Money in the Market, Simon & Schuster, 2000. p.83

Past performance is not a guarantee of future results. One cannot invest directly in an index. The Dow Jones Industrial Average is an unmanaged, price-weighted index of 30 blue-chip U.S. stocks. This material was prepared by the Brandes Institute, a division of Brandes Investment Partners®. It is intended for informational purposes only. It is not meant to be an offer, solicitation or recommendation for any products or services. The foregoing reflects the thoughts and opinions of the Brandes Institute.

Although there is no assurance that working with a financial professional will improve investment results, a financial professional who focuses on your overall financial objectives can help you consider decisions that could have substantial effect on your long-term financial situation. 

The S&P 500 Index with gross dividends measures equity performance of 500 of the top companies in leading industries of the U.S. economy.

The recommended reading has been prepared by independent sources which are not affiliated with Brandes Investment Partners. Brandes does not guarantee that the information supplied is accurate, complete or timely, or make any warranties with regard to the results obtained from its use. Brandes Investment Partners does not guarantee the suitability or potential value of any particular investment or information source.