I follow the horses.

I follow the horses; the trouble is, the horses I follow also follow the horses! How many times do you hear people say something along those lines after they have spent a day at the races? Surely, more often than not. They put their money on before the race starts and that is that, the die is cast, and they have to live with that initial choice.

In last month`s Saltydog newsletter there was an article about the timing of the purchase and the subsequent sale of two funds in the Tugboat portfolio. One being AXA Framlington Biotech and the other GLG Technology. These two cases demonstrated very clearly the principle of momentum investing. Unlike in a horse race, these funds were chosen after the race had started when the funds were performing well; whilst the race was still underway we decided to dismount when both funds started to falter and lose ground. Therefore we still retained the gain between the buying and selling prices. There were some people who chose to stay mounted as the race continued hoping that the horse would recover. They are now looking at a situation where the selling price may be less than the purchase price. They are in a loss situation. They are on a horse that is following other horses!

As a Saltydog subscriber, with access to all the fund performance numbers and graphs, why should we get tempted to break the rules? After all, buying and selling Unit Trust/OEICs is quick and virtually free on a supermarket fund platform, and a sale made too early can easily be rectified with a repurchase. You will have simply locked your gain in whilst avoiding a potential loss. This must be a better situation. So why, myself included, do we end up occasionally running loss making situations?

It must be down to built-in facets of human nature.

  • Inactivity. It’s sometimes easier to do nothing and ignore the evidence. You will be able to recall the odd time where doing nothing has perhaps worked and ignore the many times when it did not. It is easier to put the decision off until tomorrow.
  • Loss aversion. Investors are happy to lock-in a profit, but reluctant to lock-in a loss. It must however be more profitable to run your winners and cut your losers.
    Selective thinking. We give more credence to the facts that confirm the beliefs we already hold and sideline those that do not.
  • Positivity. One of the reasons that the human race still exists and goes forward must be its ability to be positive even in the worst conditions. This may not always be the best approach to investing. Overconfidence can lead to poor decision making.

These facets are in my opinion attitudes of mind that I have to take account of when looking at my own investments and decision making. It is only too easy to stray onto the horse at the back of the field.