Greed and fear in the financial world
This is the second in a series of two articles on the interaction between greed and fear in the world of finance. John Cassar White examines these motivators from the perspective of the investor. In the article published last week he examined the same human behaviour forces in those who lead the financial services industry.
Many have shrugged off the misfortune that has hit the senior management of the big investment bank giants Merrill Lynch and Lehman Brothers because they believed that these people are the victims of their own greed, and that they deserve no sympathy. Such a judgment could indeed prove to be too rushed. Unfortunately, some investors become victims of their own greed and fear too.
Many small investors save regularly to provide long-term nest eggs for special circumstances that they know they will face in the future. Such savings could be aimed, for instance, to provide for a more comfortable retirement, or to buy a dream home at some time in the future, or to provide overseas education for the children.
Increasingly, these savings are being channelled into equities and bonds, either directly or through collective investment schemes. The turmoil in the financial markets, which has now been with us for over a year, is sparking some panic reactions in those who are seeing constant erosion in the value of their investments when they receive their regular statements. There are reports of investors rushing out of collective investment schemes and equities and making substantial losses in the process.
However well financially educated one may be, it has now been empirically proven that investor behaviour is often influenced more by basic human motivators like greed and fear, than by knowledge of the risks involved in a particular type of investment. Being averse to risk is not necessarily a virtue for an investor. Life is about taking calculated risks and profiting from them.
It is when risk taking becomes irrational that trouble sets in. Many investors often find themselves possessed by a gambler's mentality that makes them want to see returns on their investment that cannot be justified by economic fundamentals. The constant aggressive marketing campaigns of financial institutions that have very deep pockets of course do not help investors to be rational in their investment decisions. It is when risk taking is tainted with greed that blood stains the streets of financial markets.
The same applies to the basic human instinct of fear. Panic is an investor's worst enemy. An investor, almost by definition, is not a speculator. If you are in the market with a long-term view, you need to have courage and weather the temporary storms that hit the financial markets from time to time.
Of course, one has to assume that a particular investor's strategy is sound. It is not the scope of this article to propose advice to potential investors, but we can certainly reiterate some fundamental principles of good investment.
For instance, spread your risks and take advice from independent advisers and always ask what they themselves will be getting for recommending a particular investment to you. Never put money that you cannot afford to lose in high risk investments. If you have wealth well in excess of your present and future needs, then by all means you are entitled to take bigger risks in the expectation of higher rewards.
Local small investors have the financial services regulators on their side. Significant protection is given to bank clients who hold accounts with local banks. The MFSA is also regularly monitoring financial services providers to ensure that no hard-selling tactics are being adopted. They also investigate all complaints made by clients who believe they have been sold an investment product that was not suitable for them. This supervisory role of the MFSA is invaluable to protect small investors.
But whether you are a small or professional investor, you need to understand the basic human instincts of greed and fear to avoid the worst consequences of both. Your investment in equities may have seen a downfall of about 30 per cent so far this year, but cutting and running could well be a bad decision at this stage. It may pay to grit your teeth and see the crisis through, particularly if you have held on through the past year.
Many small investors save regularly to provide long-term nest eggs for special circumstances that they know they will face in the future. Such savings could be aimed, for instance, to provide for a more comfortable retirement, or to buy a dream home at some time in the future, or to provide overseas education for the children.
Increasingly, these savings are being channelled into equities and bonds, either directly or through collective investment schemes. The turmoil in the financial markets, which has now been with us for over a year, is sparking some panic reactions in those who are seeing constant erosion in the value of their investments when they receive their regular statements. There are reports of investors rushing out of collective investment schemes and equities and making substantial losses in the process.
However well financially educated one may be, it has now been empirically proven that investor behaviour is often influenced more by basic human motivators like greed and fear, than by knowledge of the risks involved in a particular type of investment. Being averse to risk is not necessarily a virtue for an investor. Life is about taking calculated risks and profiting from them.
It is when risk taking becomes irrational that trouble sets in. Many investors often find themselves possessed by a gambler's mentality that makes them want to see returns on their investment that cannot be justified by economic fundamentals. The constant aggressive marketing campaigns of financial institutions that have very deep pockets of course do not help investors to be rational in their investment decisions. It is when risk taking is tainted with greed that blood stains the streets of financial markets.
The same applies to the basic human instinct of fear. Panic is an investor's worst enemy. An investor, almost by definition, is not a speculator. If you are in the market with a long-term view, you need to have courage and weather the temporary storms that hit the financial markets from time to time.
Of course, one has to assume that a particular investor's strategy is sound. It is not the scope of this article to propose advice to potential investors, but we can certainly reiterate some fundamental principles of good investment.
For instance, spread your risks and take advice from independent advisers and always ask what they themselves will be getting for recommending a particular investment to you. Never put money that you cannot afford to lose in high risk investments. If you have wealth well in excess of your present and future needs, then by all means you are entitled to take bigger risks in the expectation of higher rewards.
Local small investors have the financial services regulators on their side. Significant protection is given to bank clients who hold accounts with local banks. The MFSA is also regularly monitoring financial services providers to ensure that no hard-selling tactics are being adopted. They also investigate all complaints made by clients who believe they have been sold an investment product that was not suitable for them. This supervisory role of the MFSA is invaluable to protect small investors.
But whether you are a small or professional investor, you need to understand the basic human instincts of greed and fear to avoid the worst consequences of both. Your investment in equities may have seen a downfall of about 30 per cent so far this year, but cutting and running could well be a bad decision at this stage. It may pay to grit your teeth and see the crisis through, particularly if you have held on through the past year.