Self-Awareness
Lesson 1 Module 1
What's your investor type?
Gunslinger - shoots from the hip; makes quick decisions; goes with their gut
Ad Hoc - no plan or strategy; trades on hunches; collects rather than selects investments
Hopper - follows the latest trends; impatiently hops from one strategy to the next
Procrastinator - bored by investing; rarely looks at their statements to check on their progress
Perfectionist - has trouble making decisions; constantly looking for better alternatives
Victim - blames everyone else for poor results; no sense of ownership
Student of the market - enjoys reading books and blogs about the market; very curious
Planner​ - organized, focused, disciplined, open-minded, adaptable
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Most of us are a combination of these investor types
Challenge #1
Your first challenge in this course is to do a self-assessment of what your investor type is. Use the above as a guide, and write a paragraph describing who you are as an investor. This will be valuable as you move through the rest of the course.
What's your decision style?
Each of us has a unique way of making important decisions. Some will carefully weigh their options first, while others may rely solely on their instincts. Some may even go as far as estimating the odds of their decision being the right one, while others are content with pulling the trigger and letting the chips fall where they may.
Whatever your decision style is, the important thing is to be aware of what it is. If you're an impulsive type, you may need to work on slowing it down just a bit. If you're a perfectionist, you may fall into the trap of paralysis by analysis. Neither of these extremes is good when it comes to making important investment decisions.
Challenge #2
Your second challenge in this course is to take a moment to reflect on the way you usually make big decisions. I'm not talking about what to order at the restaurant here. I'm talking about decisions that can have long-lasting consequences in your life. For instance:
Buying a house or a car; changing jobs; choosing an insurance provider; moving to another state, and so on. Think about how you typically approach these big decisions, because it will inform you about what your decision style is. And knowing this will greatly improve the way you make investment decisions.
After all, we're talking about your life savings. Not something to be taken lightly.
What's your risk preference?
This topic is very slippery, meaning that risk preference is difficult to measure. But we have to try because it's extremely important when it comes to building your portfolio.
To over-simplify, let's set a scale of 1 to 10, with 1 being a complete aversion to take any risk at all with your portfolio, and 10 being "swing for the fences because you only live once." Where would you put yourself on this scale?
We can eliminate 1 and 2 because you don't need this course to teach you to invest all your money in U.S. Treasury bills, which are considered to be "riskless."
We can eliminate 9 and 10 because you wouldn't be taking this course if you were just going to put all your money on red, would you? So that leaves 3 through 8. Let's unpack it.
If you're a 3 or 4 it means you're very risk-averse and you have little stomach for market volatility. That's fine, as long as you are willing to accept low annual returns. How low? I'd say half of the market return (9.5%), or 4-5% per year. You can do the math and figure out how much money you'll end up with when you stop working, and if 4-5% gets you to where you want to be, then designing your portfolio will be a breeze, relatively speaking.
If you're a 7 or 8 it means you're comfortable with taking some risk as long as you aren't likely to blow yourself up in the process. A portfolio that's 70-80% in equities will work nicely for you, as long as you have at least 7 years before you have to start living off your investments.
And if you're a 5 or 6 it means that you are uncomfortable with risk but not so much that you want to completely avoid it. A portfolio with 50% stocks and 50% bonds will work for you, but your annual returns will be 6-7% instead of 9.5% if you take more risk.
The key here is understanding your risk PREFERANCE, not your risk tolerance. A highly trained soldier can tolerate a lot of pain, but they would prefer not to.
A Case Study of Hubris in Action
Dash Riprock, the hottest trader on the desk, has a hunch that Acme Safe Company is going to be a huge winner. Where did he get this idea? To his credit, he did his homework.
He looked at the most recent filings from the company. He spoke with analysts who cover the company. He even visited the company and met the Chairman of the board, the CEO, and the CFO. He is mightily impressed with what he's learned, so he made a big bet by going long the stock.
Soon after taking a large position in Acme Safe, the stock is up 10%. High Fives around the trading desk. Then, 3 weeks later there's a news announcement that the SEC is looking into possible "accounting irregularities" at the company.
The price of the stock drops quickly on heavy volume. Dash Riprock isn't phased. He believes that he knows the management of the company so well that it would be nearly impossible for them to be cooking the books.
With the stock price now in free-fall, Dash doubles his long position, confident in the belief that this investigation will find no wrongdoing. Other traders on the desk begin to question the viability of this large position and suggest that Dash should consider bailing out and cutting his losses. Dash will have none of it.
He sees himself as the smartest guy on the desk and he refuses to cut and run. 2 months later, with the stock price now down 50% from his cost, the head trader orders Dash to liquidate the position.
This incident really happened
The failure of Dash to admit he might have been wrong is a classic example of Hubris. It really happened, and I was there to see it. Dash left the firm shortly after and is now a professional poker player. Living in a double-wide outside Las Vegas, he still believes he will one day make the ultimate big score at the tables.
The takeaway from this sad story
The problem of hubris is quite common among non-professional investors. It takes a concerted effort to do an honest assessment of your behavior and make adjustments that are necessary. But this is very doable for anyone who is committed to doing better as an investor.