What's wrong with the following statements…
The Australian property market is going to crash.
The S&P/ASX 200 (Index: ^AXJO) (ASX: XJO) is risky.
A cash account at Commonwealth Bank of Australia (ASX: CBA) is the best place to park your investment dollars.
I have said before that bank stocks are set to produce mediocre returns.
I failed to invest successfully in Rio Tinto Limited (ASX: RIO) warrants. Therefore, all resources businesses suck, including BHP Billiton Limited (ASX: BHP).
Hmmm…
Those are examples of my investing biases, as I see them.
For better or for worse, I let these biases dictate many of my investment decisions.
Each of them, however, must be acknowledged if a person wants to become the best investor they can be.
Differentiating between the 'emotional intelligence' and objective information is not easy.
Yet we need to consider and understand these biases when we deal with uncertainty. Uncertainty in investing is a given.
3 investing biases that could ruin your returns
Here are three investing biases many of us hold — although we may not be aware of them — that could hold us back from a wealthier retirement.
Recency Bias
Recency bias refers to our ability to take recent events and forecast them into the future. Here's an example.
"House prices. They've gone up for years, Bob. They'll keep going up."
Another.
"Interest rates are at a record low, Shirley. They can't go any lower."
One more.
"ETFs and index funds have done well. They'll keep going up because they are the best."
If you are a long-term investor, you must be very mindful of recency bias. This bias can have serious repercussions on your wealth, especially when markets are near peaks (think: the Dotcom boom and housing in 2007) or in troughs (2009).
Loss aversion bias
"Yeah, I have 99% of my money in cash accounts and term deposits. So what if I have lost purchasing power, paid more tax and missed every rally in financial markets. My money is safe."
Studies have shown that we feel the pain of loss twice as much as the happiness of making a gain. That results in many people making irrational decisions with their money, like keeping excess cash in term deposits.
Another example might be investing only in Australia because: 'Our economy is stronger'.
Narrative bias
Remember The Adventures of Blinky Bill? The children's stories in which a young koala got up to mischief?
I'm sorry to tell you, but rational investments do not a start with a story and end like a fairytale.
Much of the time investors fall in love with a story or narrative only for it to have disastrous consequences.
An extreme example might be:
"Marijuana helps people with medical conditions, so you should buy pot stocks."
What you are buying on the sharemarket is part of a business, not an 'idea' or story.
Foolish Takeaway
There are countless other behavioural finance topics that are worth understanding and considering how they apply to your processes and strategy. Some of them will help you in times of uncertainty while many of them could hinder your better judgement.
