The general volatility in financial markets induce behaviors driven by a wide range of heuristics and biases. The market generally operates within this sphere of anticipated volatilities and is conditioned to react to these volatilities that are mostly driven by market forces and some external shocks in some cases like a terrorist attack.
But the high level of uncertainty associated with the economic downturn driven by the pandemic, causes fluctuating emotions and behaviors amongst investors. These are hot-state reactions which are hard to regulate for the financial advisors, when they have no assurances to offer. People are pushed to make trade-offs to ensure adequate cover in the times of uncertainties. Many are pulling out money to keep liquid cash for expenses going forward, others are emotionally exhausted with the uncertainty and some are doing so in speculation, only to put it back at a lower price.
Expectations management and more so the management of emotions becomes the key job of advisors. To reduce the anxiety and resulting biases, it is important to have a plan to navigate these sudden tradeoffs between today’s needs and the state of uncertainty that may or may not continue. The primary goal should be to secure a healthy enough liquid position (cash in hand) so that you are ready to face any financial challenges that one can suffer. The Optimum amount of liquid cash can vary for people but the idea is to have enough to survive for an estimated time of healthy recovery.
Those sticking to the markets are susceptible to biases given their predisposed nature of risk-taking and unusual volatility in the markets that can pull you down to the heavy loss territory very quickly. Behavioral economics has shown that loss aversion is a strong tendency amongst people to avoid losses as compared to equal amounts of gains. This tendency, operating in a loss domain (incurring losses) results in a risk taking behavior which may be putting investors in vulnerable positions. Investors and advisors need to be aware of these tendencies. Further, awareness doesn’t really help when in a hot-state. We, in our affective (emotions driven) responses to charts moving vigorously (or not moving at all), cannot seem to incorporate these otherwise understood biases. Hence, awareness is only a part of the problem.
In these peculiar times, there is a heightened level of attention than usual - frequency of checking the markets - and urge to act on signals. At the same time, overall ambiguity could well be exhausting investor’s mental bandwidth, which makes them more susceptible to judgement errors. Advisors, with the help of technology, can deliver the right cues at set trigger points - the anticipated points of action, to tackle these biases and help investors make informed decisions.