When the stock market is particularly volatile, as we’ve seen throughout this month, many of my client conversations center on the concept of ‘regret theory.’ A key pillar of behavioral finance, regret theory is one of several psychological biases that influence how investors make decisions and can have a significant impact on financial outcomes.
I find that trying to ‘time the market’ is often accompanied by regret in one of two ways:
Analysis Paralysis: Anticipating potential regret can cause clients to postpone important decisions or miss opportunities that would benefit their financial position. This could include holding onto a losing stock too long because they hope it will recover or because selling it would realize a loss that causes regret. This emotional discomfort can keep investors waiting on the sidelines too long and miss the upside of market cycles.
Fear of Missing Out: Investors might sell a winning stock too early to lock in gains for fear of missing out on profits if markets drop in the future. However, FOMO can also lead to chasing ‘hot stocks,’ excessive trading or emotional investing that distracts from the long-term goal or causes unnecessary stress in the short term.
When a choice doesn’t produce the outcome you expect, people think they could have made a better decision by choosing differently, but taking no action often leads to regret as well. It is true that market downturns present buying opportunities, but the best way to circumvent regret is to avoid getting too caught up in market enthusiasm and remain focused on your own long-term financial goals.
When you stay focused on the big picture, you’ll find the week-to-week market fluctuations have a relatively small impact on your future success.