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Painful Investing Mistakes: Why Owning Up is So Hard

Credit: Terrance Heath

Warren Buffett once said that he was “85% Ben Graham, and 15% Philip Fisher”. When Buffett, the Oracle of Omaha, puts an investor’s name ahead of himself, it’s worth listening to what these gurus have to share.

One of the Philip Fisher’s astute observations was on the art of selling. He quipped in his book “Common Stocks, Uncommon Profits”:

“There is a complicating factor that makes the handling of investment mistakes more difficult. This is the ego in each of us. None of us likes to admit to himself that he has been wrong. If we have made a mistake in buying a stock but can sell the stock at a small profit, we have somehow lost any sense of having been foolish.”

In this paragraph, Fisher observed that the individual investors often found it hard to accept investing mistakes, and sell their shares accordingly. To be sure, investing mistakes can happen especially when the underlying company behind the ticker might have a suffered permanent loss of value. Despite this, the vast majority would rather hold on to their losses although the dollars remaining in those losing shares could be put to better use in other places.

But why is accepting an investing mistake so painful for the individual investor?

Pain is psychological

To understand this baffling behaviour, we can turn to behavioral finance pioneers Daniel Kahneman and Amos Tversky. The duo noted the pain of a dollar loss felt by individuals is more than twice as much as the joy of a dollar gain. It turns out that the reasons for not selling based on investing mistakes are mostly psychological.

New York Times columnist Carl Richards expressed the same thoughts in his book, the Behavior Gap: “It’s not that we’re dumb. We’re wired to avoid pain and pursue pleasure and security. It feels right to sell when everyone around us is scared and buy when everyone feel great”

To combat this tendency, there are a few things an individual investor can do.

Consistently keeping a bear thesis, or noting down the risks in your own companies is one way of keeping ourselves honest to the facts which present itself. The simple act of putting the brutal truths on the table may be the investor’s best defense against the tyranny of his or her own ego. And we have to cast our egos aside and do just that.

Foolish take away

When mistakes are made, and the company which we bought is no longer fulfilling our initial thesis – it could be a candidate for a rare sell. We may not know it yet, but our portfolios may just thank us in the future if we manage to beat the Straits Times Index (SGX: ^STI) en route to securing our financial goals.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Chin Hui Leong doesn’t own shares in any companies mentioned.