How Behavioral Finance Can Help You Invest Wisely

Not all investments are created equally, and that’s a lesson that you quickly start to learn when you spend more and more time making investments and augmenting your portfolio. As human beings, we’re subject to a whole range of different biases, many of which we’re not even aware of.

Investors aren’t always rational people, and the idea behind behavioral finance is to get a better understanding of the way in which our natural behaviors can have an impact on our financial decisions. For example, it’s important to remember that just because you like a company, it doesn’t necessarily make it a shrewd investment.

Another important part of behavioral finance is avoiding knee-jerk reactions. You can think of investing as something that we do with our hearts and minds, and avoiding these instinctive reactions means using a combination of your heart and mind instead of just going with your heart. This has all sorts of different benefits to investors who are willing to take advantage of them, and that’s what we’re going to be talking about today.

The Benefits of Behavioral Finance

To get started, it helps to have a decent definition of behavioral finance. A paper on Science Direct provides as good a definition as any, describing behavioral finance as “a modern area of study in finance which aims to combine behavioral and cognitive psychological theory with conventional economics and finance to provide explanations for the reasons why people make irrational financial decisions.” By understanding these reasons and by being aware that they’re there, we can become more well-rounded investors.

As much as 95% of our thinking occurs in the unconscious brain, which means that we’re all heavily driven by our subconscious desires, whether we’re aware of it or not. The whole point of behavioral finance is to understand those subconscious desires and to monitor the way in which they affect our investment decisions. In some cases, it can offer us an advantage; in others, it can be disastrous.

The real challenge comes in knowing that you don’t know, and now you understand the basics of behavioral finance, you should have a good background knowledge in the way that your subconscious biases are affecting your investments. Now it all comes down to whether you’re able to apply that knowledge.

Avoiding IVAs with behavioral finance

When it comes to making investments, as indeed with most things in life, it all comes down to the information that you have available to you. That’s because myriad factors go into any investment decision, and these factors also have a major impact on whether the investment pays off or not. If you want to give yourself the best possible chance of making money on your investments, you need to consider every factor before you make your investment decisions.

Without a behavioral approach, you can easily find yourself losing money through your investments or even having to resort to filing an individual voluntary arrangement ( IVA ) in an attempt to avoid bankruptcy. If you’re still struggling to wrap your head around IVAs or if you’re ready to take out an IVA, visit IVA Advice.

This brings us on to the single biggest advantage of behavioral finance, which is that it helps you to spread your bets and to ultimately reduce the inherent risk that comes from investing your money. It’s simply a best practice, in the same way that it’s best practice to invest in a variety of different companies from different industries so that even if something unforeseen happens, you have the best possible chance of weathering the storm.

Conclusion

Now that you know how behavioral finance can help you to invest wisely, the next step is for you to put what you’ve learned today into action. The good news is that by using behavioral finance to further refine your investment strategy, you can dramatically improve your return on investment (ROI) and ultimately set yourself up to make the greatest amount of money possible.

So if you haven’t already, consider making behavioral finance a key part of your investment strategy. We promise, you won’t regret it.