Conventional wisdom, frequently embraced as if it were scientific theory, too often steers us in the wrong direction. For instance, we’ve seen thousands of popular diets become accepted into the mainstream and then fade into obscurity. We even had an incredibly popular show, “Mythbusters,” based entirely on proving bits of conventional wisdom wrong.
These traditional beliefs hold truer than ever in finance. Investing can be confusing enough when looked at rationally, and our natural instincts and gut reactions are usually counterintuitive to our success. Below are some widely accepted nuggets of financial wisdom you can ignore:
“If you’re not currently doing well, try something else.”
There’s a deep-seated idea in people’s minds that when something is going awry, they need to change what they’re doing. Even Albert Einstein once said, “Insanity: doing the same thing over and over again and expecting different results.”
Nobody enjoys failure, but it’s important to separate short-term slip-ups from your overall achievements. Think of it this way: You wouldn’t give up on a marathon if one mile was run slightly slower than the others.
This applies in a big way to investing. According to Morningstar, investors lose 2.5% of their wealth every year on average due to “trying something else” and timing the market poorly when their strategy isn’t performing as they’d like it to. If you have a diversified portfolio that is focused on the long term, trying something else right away may not be the best move at first. As Morningstar puts it, the data “shows that an investor is better served by sticking to a strategic asset allocation plan and filtering out the noise of whatever else is happening in the market.”
“Always stay informed.”
It seems like having your eyes glued to your television or computer while watching investment news like a hawk would prove beneficial. Granted, anywhere else this would make sense – the more knowledgeable and informed you are, the better decisions you can make.
This might hold true for day traders, but if you’re investing in the stock market for the long haul, it shouldn’t make a difference what Apple’s stock price is doing this very day, or even how the next iPhone will affect it.
Media hype isn’t meant to help you make your next financial decision. Although it’s counterintuitive, staying constantly informed can tempt you to make predictions and throw your investment strategy off track.
“When you’re not sure, take action.”
We’re naturally inclined to take action when something is going wrong. This is the same instinctual hardwiring that keeps us out of danger during a fire, and it’s correct most of the time.
When it comes to a tumultuous stock market, however, this same hardwiring can prove harmful. Often, it entails throwing your investment plan off track by taking action that wasn’t in the game plan, usually at a loss. Studies indicate that this can even apply to active fund managers, whose job relies on this very instinct. Look no further than a well-known Vanguard study, which found that on a 10-year basis up to 2013, fewer than half of active managers outperformed the index.
While there are smart times to adjust your portfolio, such as rebalancing or accounting for tax efficiency, the short-term feeling of needing to take action usually isn’t one of them.
“Always go with your gut.”
Our gut instincts are a powerful indicator when it comes to everything from social interactions to sensing danger. Unfortunately, humans are suspect to a slew of psychological biases that can cause our gut to steer us in the wrong direction.
For instance, we naturally notice and try to avoid losses far more than we try to chase gains (otherwise known as loss aversion). While this proved helpful when noticing a lion over a tasty fruit, following those instincts in the stock market could have a negative effect. It could cause you to panic and try to avoid a small loss, while ignoring the overall gains your portfolio has been making.
“Stick with what you know.”
Would you rather eat a steak (or vegetable) that came from a local farm, or one that was shipped across the country?
It’s conventional knowledge to have more trust in “buying local” or “going with what you know.” While you should absolutely aim for complete transparency when it comes to your advisor or investments, this also plays out in dangerous ways as the familiarity bias.
This comes out when you buy more of a certain investment because you have a personal connection to it. For instance, many people feel an intimate connection with the company where they work, so they buy a large portion of its stocks. In reality, their company isn’t any different than any other on the S&P 500, so it can cause them to miss out on diversification or throw off their asset allocation.
The bottom line? While your instincts may lead you to success elsewhere, in investing, it’s best to rely on the facts.
This article was written by Forbes Finance Council from Forbes and was legally licensed through the NewsCred publisher network.
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Forbes Finance Council