18 Oct How to Invest Better by Knowing Your Investor Type
In my previous article I shared about the four different investor types – the Celebrity, the Guardian, the Individualist and the Adventurer.
These four profiles stemmed from Bielard, Biehl and Kaiser’s research in 1983. In that study, Investors were positioned along two axes, confidence and carefulness. Depending on where individuals rank on each account, the researchers were able to tag them as one of the above.
I have always insisted that it is crucial for investors to know about themselves in order to invest better. Let us start by examining the four cornerstones.
Confident vs Anxious
Confidence is the belief that one can do something well and achieve success. It is a good predictor of success, and applicable in many aspects of life.
There is, however, a very thin line between being confident and being over-confident. We all think we are better than average drivers; no one (men especially) would admit that their driving sucks and that they are a road hazard. Similarly, we all think we are better than average investors, and that we are able to beat the market and do better than everyone else.
This overconfidence phenomenon is so widespread that psychologists have a name for it – the Dunning-Kruger effect. So named after David Dunning and Justin Kruger of Cornell who discovered in 1999 that over confidence is the norm rather than the exception, and that human beings over-estimated their own abilities in skills as diverse as reading comprehension, practicing medicine and playing tennis or chess.
Anxiousness sits on the opposite end of the scale as confidence. Some people have a more nervous disposition than others and they tend to worry more. Some manifest it outwardly, others do not. Just as the confident person thinks that everything will turn out well, the anxious person always thinks that things will turn out badly. Therein lies the anxiety.
Impetuous vs Careful
Impetuous people tend to be more rash and emotional. While it suggests eagerness and enthusiasm, it also signifies little or without adequate thought. Whether or not he or she admits to it, an impetuous person operates by acting first and thinking later.
Taken to the other extreme, careful people have the tendency to over think and over analyze their courses of action. They like to play it safe, and anything out of the norm makes them feel uncomfortable. As a result, careful people tend to rue the missed opportunities in life, be it at work, in relationships and of course in investing.
At this juncture, we need to understand that there is no right or wrong, no good or bad amongst the four characteristics. We are all wired differently and we have no business force fitting ourselves into another person’s shoes.
What is more important is to understand where we stand as individuals and discover how to invest effectively within our character. Let us examine each character in more detail.
The Celebrity likes to be where the action is. She does not like to miss out. Unfortunately her knowledge of investing is often lacking. In order to compensate for that, she relies on friends for advice.
Well meaning friends will try to rein her in but will eventually end up frustrated and defeated. This is because in making investment decisions, the Celebrity does not rely on cold hard logic but rather raw emotions and hope.
The celebrity is an alternative investment sales person’s dream client. Her lack of confidence means she is easily swayed, and her anxiousness is apparent to the well trained sales practitioner.
Celebrities are the ones who plonk down huge sums of money on an overseas property or the land banking deal, all in super quick time and without doing due diligence.
For Celebrities to achieve better outcome with their monies, I have two suggestions.
The Celebrity tends to be trusting and takes things at at face value. Start by practising some skepticism. Our friend Chris who blogs at Tree of Prosperity has a great article on How to master skepticism. Despite being somewhat unorthodox, you cannot go wrong following them.
If all this sounds too complicated, the Celebrity should identify a financially savvy friend or advisor who she can totally trust. Before investing in anything or making any money decisions, speak with the other person and make sure the he or she concurs. If there is any doubt at all, defer to the ‘frien-visor’. It is a sure way to prevent heartbreak.
Two scenarios usually trip the Guardian up when it comes to investing. When starting out, many Guardians fail to understand the risk and volatility of the instrument they are investing in.
Take the most common example of investing in the stock market. During a bull run, Guardians might be tempted to invest along with their family and friends. They fail to understand that equities are extremely volatile.
When the market corrects, they are unable to bear the pain of seeing their capital deplete. They lose sleep and become unable to work. Eventually they sell out and take the loss. They swear never to invest in stocks again.
The second instance occurs when guardians becomes so afraid of losing their hard earned money that they refuse to work their money at all, instead choosing to leave it either in cash in the bank.
In doing so, they not only lose out on potential gains, the real value of their money also depletes in an inflationary environment. The same dollar they have saved up now will be able to buy them a lot less in the future. By hoarding their money and not investing wisely, they are in fact losing out. This is a fact Guardians have to realise.
Being confident and careful sounds like great traits for any investor to have. In reality, the individualist do very well when it comes to money management.
They suffer none of the pitfalls that trip up the Celebrity, the Guardian nor the Adventurer. They do not jump into dubious investments easily and are not attracted by glitzy sales pitches. On the other hand, neither do they hoard their money or leave them sitting in a bank account earning close to nothing. Individualists tend to be grounded and level headed, they tend to have a plan with their finances.
That is not to say that they are perfect and there is no room for improvement. Many individualists tend to be disengaged when it comes to money matters. They often entrust their money to professional fund managers and take little interest in it subsequently.
Given their temperament, the individualist can afford to play a more active role in managing his or her own monies. As time goes by, the more informed ones might want to DIY and in the process remove a layer of fees from his or her investment structures. That is one way an individualist can achieve better returns.
Amongst the four groups, the individualist remains a rare breed.
I kept the Adventurer profile for the last because I can relate most to this character.
The Adventurer is confident and impetuous. He is confident because he ‘thinks’ he is the subject matter expert. According to Dunning-Kruger, that means when he is wrong he takes longer to realize than everyone else.
Adventurers tend to be entrepreneur and adrenaline junkies. When it comes to investing, they prefer to look at the big picture and disregard the little details. For an adventurer to do well in investing, here are some of my thoughts.
Understand the difference between ‘Time in the Market’ vs ‘Timing the market’. Adventurers like to forecast and make predictions. The Adventurer is forever waiting to catch the big one and ride the big wave. They tend to be caught up with the current trend.
Adventurers must understand that it is extremely difficult to time the market. Buying at the lowest and selling at the highest sounds really great, but in reality, the reverse happens more often than not.
To ask an Adventurer to adopt a buy and hold strategy is like asking a kid to stay away from ice-cream and lollipops. Adventurers live for the excitement and the thrill of making the right investing decisions. We are in no position to deny them of their birthright.
What we can suggest Adventurers do, is to take a holistic view instead of focusing on individual investments. The entire portfolio must be balanced, with safe instruments forming the base. The adventurer can then use whatever excess investible funds to seek out more exciting investment ideas.
In other words, the Adventurer’s basecamp must be well stocked and fortified before he or she sets off for further conquests.
The Market is an Expensive Place to Find Out
In conclusion, there is no perfect investor profile. Each personality has its pitfalls and its strengths. It is important to know who you are and tailor your investment to fit your personality.
I will leave you with this quote from philosopher and economist Adam Smith.
If you do not know who you are, the market is an expensive place to find out.
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