Monday, July 4, 2011

Measuring Investing Success Emotionally Can Be Costly

We may not always agree on which investing approaches are best, but some are so bad that it should be obvious. Flipping back-end loaded mutual funds monthly is just a bad idea no matter how skilled you are. Buying into IPOs you don’t understand is also a bad idea.

A common defense of bad investing approaches is something like “there is no best investing approach” and “everyone has his own way to invest that works for him.” It is true that there are aspects of each person’s situation that are distinct, but for the most part, this defense is nonsense.

If your financial advisor has you in 3% MER closet index funds and you could be investing with a different advisor who would charge you only 1% to be in low-cost index funds, then your investing approach is bad. Sticking with the high-cost advisor because he’s a good guy who makes you feel important is an expensive choice.

Very few investors even know how their portfolios are performing in numerical terms. If they don’t know the numbers, then how do they make their choices? The only remaining possibility is that their choices are based on emotions, and this can be costly.

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