The S&P 500 index fell about a third from its Feb. 19, 2020, peak to its March 23 low, and investors who sold that day locked in the loss. By Aug. 18, the index had rallied more than 50% to a record close.
Selling felt safe that day because instinct is built to run from danger and chase what’s working. Four biases explain how it shows up in your trades.
Loss aversion makes a loss hurt more than an equal gain feels good, so a falling balance pushes you to sell just to stop the pain. Recency bias makes you expect the last few months to continue, so a slump feels endless and a hot streak feels safe. Herd behavior has you buy what everyone else is buying, usually after it has already run up. And after one good call, overconfidence makes you trust the next hunch more than it deserves.
The fix is to make each decision once, on a calm day, and write it down. Your one-page plan should cover four things:
- Your target mix, such as 80% stock funds and 20% bond funds.
- What you’ll buy each month, the same amount on the same day, a habit called dollar-cost averaging.
- When you’ll rebalance, such as each January, by selling some of what has grown to buy what has lagged.
- What would make you sell, such as shifting money you’ll spend within five years into savings. A falling price isn’t on the list.
Then automate as much of the plan as you can. A robo-advisor can manage your mix and rebalance it for you, which leaves you fewer choices to make during a market scare.
Finally, add a cooling-off rule. Before any trade your plan doesn’t call for, wait 48 hours and reread it.
To hand your mix and its rebalancing to software, compare the best robo-advisors.
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