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9 Irrational Investment Behaviors of Novice Investors

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9 Irrational Investment

Lately, I've realized how crucial it is to understand and control your psychology as much as it is to find good stocks to succeed in investing.

Investment trends seem to come and go. Dividend stocks dominate the headlines one day, followed by quantum computing, gold, or Bitcoin the next. Amid this constant buzz, it’s easy to feel like the assets you hold are stagnant or falling behind.

In reality, many individual investors overreact to market changes or fall prey to psychological biases, leading to irrational decisions.

Here, I’ll summarize nine common irrational behavioral biases that novice investors often experience and examine their negative impacts on investing.

1. Anchoring

Concept
This bias refers to people clinging to specific reference points (e.g., a stock’s past high or initial purchase price) that become benchmarks for future decisions.

  • Example: “It used to be worth 100,000 KRW, so at 50,000 KRW, it must be cheap,” leading to impulsive buying.

Problem
Even if market conditions or a company’s fundamentals have changed, clinging to outdated benchmarks can result in missed opportunities for buying or selling. Proper investment decisions should rely on up-to-date information and thorough value analysis, as past prices may hold little significance.

2. Confirmation Bias

Concept
This bias involves accepting only information that supports pre-existing beliefs while ignoring or dismissing opposing views.

  • Example: An investor holding Apple stock focuses only on positive news about the company and becomes convinced it will grow further, disregarding warning signs.

Problem
This narrow perspective can cause investors to overlook risks and lead to overconfidence or unrealistic decisions.

3. Overconfidence

Concept
This occurs when individual investors overestimate their investment skills or ability to predict the market.

  • Example: Believing, “I can perfectly time the market.”

Problem
Overconfidence often leads to excessive leverage or risky short-term trading, increasing the likelihood of significant losses. It is frequently cited as a major reason for poor long-term performance.

4. Myopic Behavior

Concept
This involves reacting impulsively to short-term price fluctuations or news rather than focusing on long-term value or fundamentals.

Problem
Even if the original investment goal is medium-to-long term (5+ years), reacting to daily price changes by frequently buying or selling increases fees and taxes while reducing compounding effects. Many individual investors underperform the market because of this short-term focus.

5. Status Quo Bias

Concept
This bias describes a conservative attitude of sticking to an existing portfolio or strategy despite changing circumstances.

  • Example: “I’ve always done it this way, so I’ll keep it as is.”

Problem
If market conditions or personal financial situations change, failing to adjust could result in excessive risk or missed opportunities.

  • Example: Maintaining a portfolio designed for high-growth periods during an economic downturn.

6. Loss Aversion

Concept
Investors tend to feel losses more intensely than equivalent gains and may make irrational decisions to avoid losses.

Problem
This may lead to prematurely selling for small gains or holding onto losing stocks in hopes of recovery, which can result in even larger losses.

  • Example: “It’ll bounce back someday,” despite no clear justification.
    Accepting losses as part of investing and setting objective criteria for selling are essential.

7. Herd Behavior

Concept
This involves blindly following what other investors are doing.

  • Example: “The bull market is starting, so I need to buy,” or “The market is ending, so I should sell before losing more.”

Problem
Succumbing to herd mentality often results in buying during market peaks or selling during bottoms, leading to poor timing and missed opportunities.

8. Recency Bias

Concept
This is the tendency to overemphasize recent events or market trends as if they will continue indefinitely.

  • Example: Buying a stock because it has recently surged or selling in panic due to a recent drop.

Problem
Focusing solely on short-term trends can cause investors to overlook long-term fundamentals or broader market trends, often resulting in losses when the market reverses.

9. Self-Attribution Bias

Concept
When investments succeed, this bias attributes success to personal skill, while failures are blamed on external factors like the market or bad luck.

Problem
This prevents investors from reflecting on their decision-making errors, leading to repeated mistakes and slower improvement in investment skills.

Lessons From Behavioral Biases

The nine irrational investment behaviors outlined above demonstrate that humans, despite believing they are rational, are prone to various psychological traps. These biases often cause individual investors to underperform market averages.

How to Mitigate These Biases

  1. Focus on Objective Data
    To avoid anchoring and confirmation bias, always consider opposing views and verify decisions with the latest financial data and objective metrics.

  2. Separate Emotions From Decisions
    Loss aversion and herd behavior often lead to emotionally driven trading. Setting pre-defined buying and selling principles (e.g., target returns, stop-loss criteria) and sticking to them helps maintain discipline.

  3. Maintain Records and Review
    To reduce self-attribution bias, keep a detailed investment journal of decisions and outcomes, and periodically review it. This practice helps identify and correct mistakes.

As the saying goes, “Investing is psychology.” The better you understand and control your psychological biases, the more stable and long-term your investment returns can become. I plan to use this as a checklist for my own investment decisions moving forward.