Whether the transition you face is a transition out of the farming business or just the transition from full-time employment into retirement, beware some common blind spots. When faced with an important life transition, most people struggle with some common blind spots.
1. Decision Overload
As the transition approaches you face loads of choices. When to start the process? What types of advisors to consult? Which individual advisors to trust? How to reduce the risk of a disruption to you plan?
Being flooded with so many questions can be overwhelming. There's pressure not to mess up. It's a recipe for procrastination—analysis paralysis. As a result, many people do nothing. But that choice can be harmful to your transition.
2. Loss Aversion
You have work hard to build your business, or just accumulated savings. It's natural to have an emotional attachment that makes it hard to let go.
The stronger our emotional attachment, the more likely you will make bad choices about how to transition and what to do with your money.
Loss aversion is all about emotion and it affects our behavior. People feel cash losses much more strongly, more emotionally, than they feel gains. The motivation to avoid losses is twice as strong as the desire to make gains, according to Nobel Prize-winning psychologist Daniel Kahneman. His work has helped create more understanding about the psychology behind our money choices.
For investors, loss aversion often leads people to:
1. Hold on to a sinking investment too long because they hope it turns around; and
2. Sell gaining investments too fast because they don't want to lose the gain.
At its most extreme, loss aversion leads to the dreaded "sunk cost fallacy." That means you hold on to an asset until it's worthless. Think of Enron and WorldCom.
What's the remedy? Remove the emotional attachment to your money. I know, easier said than done. Many folks think, "Who could watch my money as closely as I do?"
But if you recognize the loss aversion emotion in your mindset, consider talking to a fiduciary financial adviser about managing your investments. Advisers don't fall in love with an investment—there's no emotional attachment—and that professional detachment helps allow them to manage money objectively.
3. Hindsight Bias
You've heard the saying "hindsight is 20/20." This is a common problem among many people. They believe they can predict the future value of grain markets, land prices, investments and other financial products based on past experience.
No one can predict the markets, and hindsight is not always 20/20 when it comes to your investment portfolio. It's important to remember that past performance is not indicative of future results.
4. The Herd Mentality
You probably know a group of folks who meet for coffee every day. They most likely talk about the weather, grain markets and maybe investments. Even if you don't know a group of these folks, you have probably watched financial news on one of the cable channels.
The herd mentality is the same either way. Some event brings an investment to the spotlight. A group of experts all offer opinions on what will happen next. Then the price starts to move up and it looks like the experts where right. It looks like a great opportunity. It's easy to feel that if you don't own the "hot" stock you are missing out.
Human nature leads people to buy AFTER the stock has gone up and is at a peak. Then as the market turns, which it always does, they hold on, hoping things will turn around and wait to get out too long. Often, people end up buying HIGH and selling LOW. It's just the opposite of ideal investment strategy.
Become a Rational Investor
Money is emotion-based. It's natural for these emotions to creep into our money management, but they can produce irrational decisions.
This is why the 21st Annual Dalbar Quantitative Analysis of Investor Behavior showed that the S&P 500 delivered growth of 11% per year from 1985 to 2015 while the average equity investor only received 3.79% return on their money. The study is based on actual buys and sells of the S&P 500 during that time.
The difference between what the market is willing to give and what people actually receive is what I call the Behavior Gap.
A good, fiduciary, financial planner with help you manage your behavior so you get more of what the market actually delivers.