Don’t panic when trading stocks: How investors make rational rather than emotional decisions

shares in this article

• Fear and greed make it difficult to act rationally
• Buffett advises: Act contrary to the emotional situation on the markets
• Prepare strategy and stick to it

When prices are rising, it’s easy as an investor to sit back and let the money work – on the other hand, when prices are falling, one or the other trader gets nervous and as a result may make hasty emotional instead of rational decisions. But emotions aren’t exactly the best advisors on the stock market. If investors get too carried away by the uptrend one day or the downtrend the next, they may also become too tempted to buy or sell.

So how do investors, as investors, avoid letting their emotions guide them too much and instead manage to make rational decisions?

Why do we find it difficult to act rationally?

With regard to the fact that investors often find it difficult to act rationally, the German psychologist Arnold Kitzmann refers to two main responsible human characteristics in his book “Mass Psychology and the Stock Market: How Expectations and Feelings Determine Price Developments”. These qualities are fear and greed. On the one hand, greed often prevents investors from finding the right time to sell during an upswing. On the other hand, fear causes excessive stock market sell-offs during a downturn.

Stock market legend Warren Buffett once gave important advice regarding fear and greed: “Be fearful when others are greedy and greedy when others are fearful” is probably one of the most well-known stock market wisdoms and means that investors are contrary to the emotional situation on the markets should act instead of getting carried away by the prevailing mood.

Here’s how investors can prepare

In order not to make hasty decisions and to get through bad times safely, there are a few things that investors can do.

In order not to make hasty decisions based on gut instinct, it is important to have a strategy in place beforehand. So you should determine which goal you want to pursue and also what risk you are willing to take for it. Since not everything always goes as planned on the stock exchange either, you should also consider an exit strategy. So do you stay invested even when there are turmoil and sit out the phase or do you get out in turbulent times – and if so, when? If you think about all of this beforehand, you reduce the risk of being overly guided by your emotions.

When determining a strategy, the investment horizon is an important factor. For example, if you have a long-term investment horizon, you don’t need to worry about interim losses, as these are usually made up for over the years. With this in mind, it will probably be easier to keep your feet still during short-term turbulence.

It is also crucial when selecting stocks to consider not only their price, but also their value – there can be significant differences here. For example, some stocks are considered overvalued, while others may be very cheap and undervalued, with upside potential. For Berkshire Hathaway CEO Warren Buffett – certainly the best-known value investor in the world – the value of a stock or a company is crucial. So Buffett is betting on stocks that he believes are undervalued based on their intrinsic or fair value and recommends that investors focus on companies that are likely to have long-term value.

It is also important not only to save in shares. Investors should always have sufficient liquid funds from other investments to be able to ride out a possible downturn and not be forced for any reason to part with their investment at a discount in bad times.

Last but not least, it is important to keep calm and a cool head, to continue to stick to your strategy even in turbulent times, to review the arguments why you have decided on a particular investment and to overcome fear and greed to shake off as much as possible.

Editorial office finanzen.net

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