Personal Finance June 24, 2016

    Being rational is especially hard when it comes to your money. In a perfect world, every investor could "buy low and sell high"—however, the realities of markets often prove more complex, and require a more measured approach.

    Take losses, for example. When your portfolio value falls sharply, you may hold a declining investment, hoping the price will rise again—at least up to the price you paid so you can break even. This kind of loss aversion can prevent you from taking the right steps for sound portfolio management.

    On the other hand, when markets are boisterous, overconfidence can prompt you to ignore diversification, or trade too often. It can prevent you from paring your winners when markets are too frothy, and set you up for losses when your "winning" securities reverse course.

    Whether your investments are increasing or decreasing in value, your emotions can steer you in the wrong direction.

    The Emotional Toll on Your Portfolio

    Buying and selling—or selling and then buying—in the hope of catching higher returns is a common investor foible. And in large part, emotions explain why investors consistently underperform the markets. The difference, sometimes called the "behavior gap," adds up over the years. For example, over the ten years ending December 2015, the typical fund gained an average of 1.3% more than the typical investor each year, leading to a cumulative average shortfall for the investor of 20.9% for the ten-year period.

    Chart showing average investor returns were lower than the average fund return for a 5 year and 10 year period ending December 31, 2015.

    Choosing, implementing, and maintaining a well-thought-out investment strategy can help you avoid some common investment mistakes. In fact for decades, academics who study the intersection of psychology and money—a field known as "behavioral finance"—have argued that if investors could only remove emotion from their financial decision-making they would stand a better chance of reaching their long-term goals.

    But on a personal level, ignoring your natural responses to market gains or setbacks can be as challenging as giving up sweets or sticking with an exercise program.

    Technology Takes Emotion Out of Investing

    So, what can you do, knowing that emotions can interfere with how you choose and manage your investments? Schwab Intelligent Portfolios™ allows you to artfully (or rather digitally) skirt your personal biases and emotional reactions using powerful new technology. It circumvents prejudices you may have by using the information you provide in the Investor Profile Questionnaire to objectively match certain investments with your particular risk profile. Answer a series of questions via our app or our online questionnaire and the technology recommends a target allocation for your portfolio based on your responses.

    Technology also automates the asset management process through periodic rebalancing—the often burdensome task of restoring your portfolio's asset mix to the target allocations. Automatic tax-loss harvesting, available for accounts with at least $50,000, also sells portfolio laggards in an attempt to offset capital gains elsewhere. Electing automated tax-loss harvesting for your portfolio, helps you avoid the sometimes painful decision to sell a security that has fallen below the price you paid for it. It also frees you from searching and researching new securities to replenish your portfolio. Because Schwab Intelligent Portfolios makes these decisions for you, you can relax—although you should always keep an eye on your investments.

    Your emotions might still surface when you think about your money, but with Schwab Intelligent Portfolios, you can avoid being ruled by them.

    Tax-loss harvesting is available for clients with invested assets of $50,000 or more in their Schwab Intelligent Portfolios™ account. Clients must enroll to receive this service.

    Diversification and rebalancing strategies do not ensure a profit and do not protect against losses in declining markets.


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