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LOSS AVERSION OR OVERCONFIDENCE; RISK OF REGRET Profits tend to feel roughly half as good as losses hurt. Accounts whose owners are indifferent tend to outperform accounts monitored on a daily basis. Short-term worries about performance, and the subsequent trade in over-reaction to events might explain why there is a risk premium for minute-to-minute hands-on monitoring. The ability to call up instantaneous portfolio valuations from the Internet should be shunned becauss investors are generally poor at judging their own tolerance to risk. Performance volatility, as presented in many statistical portfolio evaluations, does not capture the essence of risk as viewed by the average investor. He views risk not as an absolute but relates it to the regret that he will feel if things don't work out. Trying to compensate for the regret of not having been smart enough to enter or exit earlier, he usually jumps to join in to an impressive performance move just as a corrective adverse reaction starts to develop. Discretionary, non-systematic currency traders tend to be overconfident and consistently overestimate their abilities to make predictions about what will happen in the short-term. When they apply hindsight they are always convinced that recent price moves were predictable. Strictly systematic and rule-based trading strategies avoid these typical pitfalls of discretionary traders. |
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