Tuesday, June 7, 2016

Selling: The Emotional Response

What is it that makes us human? One could argue anything really. It could be our ability to adapt as mammals to new situations. It could also be our ability to feel emotions beyond that of the initial origin. The point is that being human comes with many advantages but also with some clear disadvantages. Sometimes however, they can be one and the same.

One of these advantageous disadvantages is our ability to feel emotions on a higher level and to learn from them on an IQ level that is above that of other species on the planet. By having this ability we can think, reason, and make judgement calls based on it to predictably influence our future course or direction. When this is applied to stocks our minds can play tricks on us. Did you know that the human brain can experience pain much stronger than it can experience happiness?

The feeling is a gut response by your sympathetic nervous system that makes sure that if something bad happens in your life, you may be smart enough to avoid it next time. This is a serious advantage when it comes to learning lessons in the stock market. If we make a bad pick, we can learn from that pick and how to avoid it next time (to a certain degree). This however is also a double edged sword, as I motioned to earlier in the article. By having this ability, we can also be tricked by our own minds.



An example may help. Let's say that I just bought a stock at $50 a share in a reasonable decent company. The company however has a small drop ahead because of some bad media. The stock itself still in a good company. However, our brains interpret this pain as something far greater of an emotional response that that of a small or larger gain in the stock. We feel the pain of loss at an extreme level. This makes us more likely to sell the stock rather than wait for the gain that it may likely feel later on if held. Studies have even shown that gains of the same amount lost aren't felt as heavily as a loss. A $10 loss in stock price is felt more than double by your mind than a $10 gain in price.

This trained response is great in application if you can trick yourself into getting used to that response. The problem however is that most are not used to it. As soon as a drop is felt, emotions can take over and ruin you. You sell out before it even has the chance to come back. It's important to understand this relationship if you are to become a better investor or trader. Learn from this and control it to your better. The next time a drop comes, instead of quick selling because of your feelings (that your sure to feel when the drop comes), hold on to the company, re-evaluate, and see if there really is reason for the sell. If so, you may want to actually get out. If not however, it is probably a good idea to average down.

There are many traders/investors out there that already stand and control this relationship but I wanted to make sure to write about it to make sure it always stays on the forefront of my mind. It is always best to learn, educate others, and become the best that we can be. Take care everyone and good luck in those stocks this week!

5 comments:

  1. DR,
    This is so true and at times I have to keep reminding myself of this!

    DM

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