Don’t make these 2 investment mistakes

The first step in avoiding behavioural blunders is combining good qualitative and quantitative research.

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In particular, a strong quantitative process is “objective and unemotional, and back-tested. That kind of approach [helps] get rid of a lot of emotion and it works consistently over time,” says Chris Ibach, a global portfolio manager for Principal Global Advisors in Des Moines, Iowa. His firm manages the Renaissance Global Equity Private Pool.

Read: Are you a victim of these investing biases?

Ibach suggests ways to overcome biases caused by two common behavioural mistakes: anchoring and endowment.

Anchoring. “The market tends to focus on the most recent [earnings] estimates, while our analysts focus on what’s [likely] to happen a year down the road when looking at companies we would like to buy,” says Ibach. He also looks for hints of positive surprises, such as unexpected earnings growth.

He notes, “We ask, ‘where could analysts be wrong?’” And this is helpful since the anchoring effect can misguide analysts and “lead to a bias that’s underestimated.”

For more on the anchoring effect, read: Don’t fall into the NAV trap

Endowment. On the selling side, investors need to be aware of the endowment effect, Ibach explains. “Consider that when we research [and buy] a company, we tend to have a relationship with [that investment]; and we don’t necessarily want to [remove] ourselves from that relationship, particularly if [a holding] has done well.” Alternatively, a holding may not have done well and an investor may want to recoup losses.

To combat this effect, “[we] always push analysts to review holdings [and] gain fresh perspective.” They do this by regularly ranking investments based on which areas of the portfolio have done well versus those that have done poorly and lost their relative attractiveness. “This helps us eliminate endowment bias [because] we look at better alternatives.”

Read:

Red flags for equity investors

Use technical evaluation to choose stocks

A third dimension of risk

How smart has your beta been lately?

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