Myopic Loss Aversion
How often should I check my portfolio?
It is a common question many investors ask themselves and their advisors. With the proliferation of technology and accessibility of financial information, it is an important question to consider. Understandably, many investor's baseline inclination is that being more involved is better and that it is important to keep a close eye on things. However, it turns out that the opposite is true. More is not always better, and we can gain greater insight into why through the lens of behavioral economics.
Myopic Loss Aversion
Myopic loss aversion is a bias that investors have. We experience losses in a way that is significantly more painful than the positive feelings we experience with gains. Being up 20% is great but being down 20% can feel devastating. When loss aversion is coupled with more frequent feedback or updated information (i.e., logging into your 401k everyday), people tend to make poor decisions.
Richard Thaler, Amos Tversky, Daniel Kahneman, and Alan Schwartz studied this concept in their paper The Effect of Myopia and Loss Aversion on Risk Taking: An Experimental Test. They found that investors who evaluate their investments less often can tolerate more risk. Those that reviewed their investments more often, got more conservative over time, made more changes, and experience lower returns.
Intuitively this makes sense as markets are down 46% of the time when you measure single day periods. That is a lot of days with losses. However, over a six-month period, markets were up 73% of the time and over a one-year period they were up 81% of the time. Over a ten-year period, markets have historically produced positive returns 95% of the time. Investors looking at the data more frequently have a much different, and less accurate perception of risk than those who review things less frequently.
Nobody is suggesting that you only review your portfolio every ten years. However, the data suggests that you are likely to achieve better returns if you choose to look less often.
For insight on additional behavioral economics biases, visit our Behavioral Finance page.
If you have any questions or would like to review your portfolio, contact us here.
The information contained above is for illustrative purposes only. This is not a recommendation and is not intended to be taken as a recommendation. This material was prepared for general distribution and is not directed to a specific individual.
LPWM LLC does not provide tax, legal or accounting advice. This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisers.