Tuesday, February 14, 2012

The Seven Deadly Sins of Investors

In the book Behavioural Investing, A Practitioners Guide to behavioural Finance, James Montier, discusses the "Seven Deadly Sins of Investing". larry Berman discussed the same yesterday on BNN (watch)

  1. Forecasting (Pride)
  2. The Illusion of Knowledge (Gluttony)
  3. Meeting Companies (Lust)
  4. Thinking You Can Outsmart Everyone Else (Envy)
  5. Short Time Horizon or Overtrading (Greed)
  6. Believing Everything You Read (Sloth)
  7. Group-Based Decisions (Wrath)
1. Pride/Forecasting: We know how wrong they are. At best, they are 50% right. larry comments on the The Federal Reserve has the worst economic forecasting record of all financial forecasters. In addition, over 80 percent of portfolio managers do not beat the index. 

2. Gluttony/Knowledge: The more information analysts have about a company, does not mean better forecasting. In fact, it can work agaisnt you as you get lost in meaningless information for which incorrect impiotance is assgined. Humans also have cognitive limits to process information.
3. Lust/Meeting Companies: Most investment managers interview management as part of the investment process. However, management does not tell everything there is to know and we can't tell when they are lying.
4. Envy/Overconfidence: Wanting to show we know more than others makes us overconfident and stick with wrong decisions.
5. Greed/Short Time Horizon:  Greed is part of human nature. Excessive trading can be a significant problem for those that do not understand risk management.

6. Sloth/Believing what you read:  If you invest based on what some "guru" or so called "financial adviser" says, then you pay for your laziness. You must do your own due diligence. There is no substitute for hard work.

7. Wrath/Group-based decisions: Investing based on group decisions prevents the contrarians from posting differring opinions to balance out the ideas and come up with the best ones. There is a the danger of positive reinforcement in group think.
You can buy the book from Amazon:

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