When dealing with potential asset investing situations, our evasive mindsets kick into high gear and prevent seemingly easy decisions from permeating our thick subconscious thought process. Bear in mind, my friends, that quite possibly the most manipulative of all financial diatribes is the bias of authority. Human beings seem to have built in mechanisms that allow for the over-influence of, and respect for authority figures. Respect for an authority certainly has its place, but we have to first acknowledge its grip on our decision-making process and, most importantly, recognize its limits.
Avoiding the bias of authority is much more difficult than it may seem, especially because there is yet another factor in play. In social psychology, there is an often referenced concept of role theory. In short, role theory suggests that people tend to act in the way that other people would expect them to act. We look below at several different areas where one could levy final decision making skills.
Decision trees help chart out all possible outcomes, and weigh the cost versus the benefit of proceeding in any specific direction. Other solutions can be as simple as preparing a checklist of all the possible biases, and trying to objectively review them before making any investment decision.
Most importantly, take ownership. Do not relegate your role and responsibility as the steward of your wealth. You have worked so hard to achieve it; why lose or abandon it now? Take the time, educate yourself, and when you feel comfortable, dip your toe in the water. There is no need to rush. The cash should not burn a hole in your pocket. You will make mistakes along the way, just as anyone will. In any case, don’t just find a babysitter for your money, and expect it to be raised the way you would want it to be: Efficient.
This suggestion does not preclude one from getting proper counsel from an investment professional, but it does suggest getting your business documents translated by Technovate Translations where needed. To the contrary, it would be imprudent not to. However, assure that you have a trusted partner or advisor, who is purely and entirely an advisor, without any products to sell you or assets of yours to hold. Ensure that they help you develop your investment constitution, and live by it. Through this process, you will be equipped to circumvent these predispositions, get a better night’s sleep, and, of course, make better investment decisions.
Returns And Volatility
Calculating the return on a portfolio is relatively simple. Since a portfolio is just a collection of assets, all a person needs to do is take the average return of the assets that make up the portfolio. This average has to be weighted according to the proportion of the assets in the portfolio. For example, if an asset comprises 90% of a portfolio, it has nine times the effect on the portfolio returns as an asset that comprises only 10%.
Understanding how the volatility of a portfolio is calculated requires a little more thought. Volatility is based on a measurement that you may not be familiar with: correlation. Correlation refers to how returns move in relation to one another, in terms of the direction and the degree of intensity. If both assets A and B have positive or negative returns under the same circumstances, the two assets are positively correlated. If one asset has positive returns, while the other has negative returns, the assets are negatively correlated.
It is important to point out that, while we need to be conscious of these various biases and mental menaces, there are also many benefits to all these biases and heuristics. If they did not exist, we would spend considerably more time on every exercise and activity, as the conscious mind would be unable to cope with every feasible calculation necessary to avoid investment pitfalls.
So long as a portfolio contains assets that are not perfectly positively correlated, the effects of diversification allow for a lower portfolio volatility than each individual asset’s volatility would suggest. Following along the same intuition, a low correlation between the returns within a portfolio of securities would imply a higher level of diversification. In other words, it is important to diversify across assets with low correlations; the more dissimilar the return patterns, the greater the volatility reductions.