Is your logical, rational side the only thing engaged when you make investment decisions? If you're like many Canadians, you're swayed by emotion much of the time.
According to Franklin Templeton's recent Canada investor survey, 34% of Canadian investors acknowledge that they take an emotional approach to investing and more than a quarter (26%) are unsure of whether they do or not.
"Canadians are still looking at equities through bear-market glasses," says Ronice Barlow, head of strategic planning and business development in Canada for Franklin Templeton Investments Corp. Barlow notes the dramatic market drop of 2008 continues to stand out in investors' minds, even as the market has climbed back up, leading to missed investment opportunities. "Many investors who instinctually moved money out of equities into traditionally safe investments a few years ago are finding that many of these strategies have been offering a marginal or negative real return because interest rates are so low."
When Canadian investors were asked if they currently view fixed income assets (including bonds and bond mutual funds) as a safe haven for their money, 61% indicated they do and more than a third (35%) said they believe fixed income assets offer the best returns in today's markets. In a period where the S&P/TSX composite index has risen 68% since the market bottom in March 2009, these views on fixed income may be keeping many investors on the equity market sidelines and further from their long-term financial goals.
Three behavioural finance concepts in particular may help explain how investors make the decisions they do (detailed in the Franklin Templeton publication Time to Take Stock).
The first is availability bias. Decision-making is greatly influenced by what is personally most relevant, recent or dramatic. For investors, this can mean the unprecedented events of the 2008 financial crisis left a stronger impression than the 68% gain in the S&P/TSX composite index since the market bottom of 2009.
The second is loss aversion. The concept states the pain of loss is generally much stronger than the reward felt from a gain, so to avoid market losses many investors moved money out of stocks into low-yielding cash equivalents such as GICs.
The final concept is herding, or the innate tendency to follow the crowd. This can cause investors to lose sight of their long-term goals and pull their money out of equities at the wrong time or sit on the sidelines in cash while the market rises.
"We encourage investors to meet with their financial advisor to figure out their long-term objectives and risk tolerance," says Barlow. "An advisor can help them remove the emotion from their investment decisions and position their portfolio to meet their future goals."
Read more about Franklin Templeton investor behavior research here