Daniel Kahneman won a Nobel prize for economics in 2001 for his research and studies into behavioural science. You are already asking… what does this have to do with the fall in markets?
Well, it’s probably the most important aspect in my view. When markets fall, for some reason the most common human behaviour is to sell or want to sell.
Now, selling may be appropriate if you have a bad strategy in place. But assuming you have a good, properly constructed and disciplined investment strategy – then selling now (and you know this) is exactly the wrong thing to do. Kahneman won his prize for explaining many human behaviours and the key to his research was the irrational behaviour of investors.
It is these behaviours that we all try to understand.
It’s not easy to act in the opposite way to what your mind (driven by fear) is telling you to want to do. The media, friends, blogs, Internet headlines are all grabbing your attention with bad news. We are wired to want to sell.
“You really should be re-balancing your portfolio back up to the 35%”
The science approach
The logical approach is to actually consider your strategy and work out whether in fact re-balancing or buying is actually the right thing to do. Let’s assume your portfolio has 35% of Australian shares, add within that you have a wide number of shares (the more the better).
When the Australian share market falls 10% your allocations now lower, so you really should be re-balancing your portfolio back up to the 35% mark and having a good discussion with your adviser about this. It’s not about market timing or trying to predict the future, but it is about staying disciplined, not panicking and understanding that unfortunately, the media are simply reporting on yesterday and not telling us what will happen in the future.