Nobody likes to lose money, but an investor must also know how to lose because the markets follow the flows. Sometimes the flows swing upwards and sometimes downwards: When things go well, it's easy for everyone, but when they go south, you must keep a cool head.
Faced with a loss, psychological mechanisms take over. Research has found that a person, by nature, attributes greater weight to a loss than that which they attribute to gains. In behavioral finance, it is called "loss aversion.”
Loss aversion affects not only the financial sphere but every context in which gains and losses occur. This is a fundamental discovery of the Prospect theory developed in 1979 by Daniel Kahneman and Amos Tversky, psychologists and economists. They found that losing hurts 2.5 times more than the pleasure of earning the same amount.
Why is this the case? The main reason is that individuals do not objectively evaluate the loss and gain but assess them according to expectations. If you invest money, the expectation is to earn.
No one is immune to loss aversion. Even the most experienced investors suffer during bear markets. Still, there are certain strategies to help manage the emotional impact that losses can have on your morale when dealing with investments. The strategies include to:
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