Change your mindset today !
Let me share few tips on the psychology of the stock market and how stock market is controlled by emotions.
So, most people think of the stock market as a place of numbers where you see the price of stocks over a period of time.
At some points they’re rising, else falling at some points. But at many times stock market is controlled by emotions.
Not only that but two emotions specifically, those are fear and greed. The reason why many people end up losing money in the stock market is because they take emotional decisions when it comes to investing.
While it is controlled by emotions, you want to have an emotionless strategy when it comes to investing and making money in the stock market.
So, I’m going ahead and share how the emotions of fear and greed affect the prices of stock and of the market as a whole.
So, guys let me share one of my favourite quote by Benjamin Graham.
‘‘Stock market is essentially a pendulum forever swinging between optimism and pessimism. Neither of which are sustainable.’’
So, at any given time the market is entering a time period of unjustified pessimism or unsustainable optimism.
These are driven by fear and greed which are the precursors to supply and demand.
How emotions work?
When people gets greedy, they start buying stocks left and right without noticing anything.
They’re speculate other people making money and as a result they begin to follow the herd mentally without properly analyzing.
So you see, when lot of people move into a particular asset, the demand for that stock rises . Supply cannot increase as demanded since the stocks are limited.
So, the price is naturally going to climb. At a certain point this asset is pushed to a level of unsustainable optimism and at that point many people begins to collect their profits.
They start selling and as a result the demand taper off and a supply enter into the market.
Now, once that supply exceeds the demand, you’re going to see the sentiment of investors or the emotions of investors switching from that of greed to fear.
Once investors become fearful they’re start selling as they’re afraid of losing their money.
That is when you find market moving into another direction. At this time only you see a large supply going into the market.
Once investors get fearful, they start selling. As a result the price falls. Now eventually the exact opposite is going to take place, the price is going to reach a point of unjustified pessimism.
At that point you’re going to see buyer step up to the plate. They’re start scooping up shares at any bargain price.
As a result, the demand for the stock increases and once again if the demand exceeds the supply, the stock prices start to climb again.
This right here is the pendulum that Benjamin Graham is talking about.
So maybe you’ve talked to someone who has no knowledge on investing and maybe they’ve told you that the stock market is a losing game. It’s gambling.
That’s not true. If you speculate and buy stock without any knowledge, then its gambling. But if you analyze a company properly and then buy a stock, it is not gambling.
I want to give few reasons why most people who invest in the stock market invest with an emotional strategy .
They’re the ones who end up losing money and for them stock market is losing game.
But real investors are those who learn to invest with the sound strategy and leave their emotions at the door.
So, the first reason why many people lose money in the stock market is because they invest in stocks out of excitement.
I’m sure if you’ve talked to anyone about the stock market and you’ve asked them for their advice, they tell you to buy low and sell high and you probably say of course it’s a common sense.
But you should do exactly opposite what most people does. When they invest in the market, they will watch a particular asset or a particular stock.
Once they notice the stock price climbing and find their friends making money, they’re start buying with emotion of excitement.
Well, what’s going to happen is eventually the price is going to reach a point of unsustainable optimism and then you’re going to see that supply hit the market.
As a investor, who goes out early are the ones going to be taking profits off the table.
That is when you’re going to see the trend reverses and all sudden loss aversion is triggered. That is when most people are trying to get rid of something because they don’t want to lose more money that they already have.
They are afraid of a larger potential loss so they would rather take a smaller loss today. That is due to the fact that the feeling of loss is two times more painful then the excitement of a win.
So, a loss is much more painful than the good feeling you get when you have a win or when you’re right or when you make a good investment.
So, many people follow the strategy of cutting their loses after they bought something out of excitement at the top of the market.
So, at that point they sell low and buy high is the number one reason why people lose money in the stock market. They’re doing the exact opposite they should be doing which is buy low and sell high.
Now the other reason why people fail in the stock market is because they confuse investing with their desire of gambling.
Everyone out there have a hardwired desire to gamble and it is stronger in some people than it is in others.
But, everyone there likes the idea of getting a large return in a short period of time. This is possible through gambling. In the stock market people call it as speculation.
Now, while these high risk investment have a higher potential return, you also have the potential to lose a lot of money if not all of your money.
So, successful investors that investing is a marathon and not a sprint. If you’re looking for a high return or gamble, keep your gambling at casino and don’t confuse investing with your desire to gamble.
Now the third most common reason why people lose more money in the stock market is due to the fact that people follow the herd. This is called the herd mentality.
So, this is one of my favourite saying when it comes to the stock market. They say that the Bears make money from falling stock prices, Bulls make money from rising stock prices and the Sheep gets slaughtered.
So, when you follow the herd, you’re among the herd and you’re moving with the sheep. You’re going to get slaughtered.
These are the group of people that are moving the prices in the stock market and the Bulls and Bears are capitalizing on either that unsustainable optimism or that unjustified pessimism.
So while we need the herd in order to move the prices on the stock market they’re the ones that is going to make money.
So why do people follow the herd? Why do you become one of the Sheep in the stock market?
The main reason is because people don’t have confidence in their own ability tom make decisions.
So, as a result they rely on the decisions of others or they listen to the recommendations of the Wall Street analysts.
If you listen to what Warren Buffet says about Wall Street analysts.
He says they are out there to make fortune tellers look good. So, if you’re following these recommendations you might be right some of the time but you’re also going to be wrong a lot of time as well because at the end of the day it is an educated guess.
So, once the herd moves into an asset you’re going to see people buying it left and right. Everyone and their brother is going to be buying this particular thing and as a result the demand for that particular asset is very high.
So, you’re going to see the price of that particular asset climb and climb until it reaches unsustainable level.
At this point a bubble has formed and the asset is trading solely on the speculative basis.
So right now, that particular asset is overvalued and any one thing could pop that bubble.
So, what’s going to happen something is going to trigger a sell-off. You’re going to see that bubble pop and all of that value is going to be lost.
The price is going to fall a lot faster than it climbed because like we said emotions of fear is a lot stronger than the emotion of greed.
People are afraid to lose money. So when they see stock price falling they’re going to sell a lot faster than they bought.
So, once bubble pops you’re going to see the asset go into a sell-of and a bench the taper off and then with time you will likely see the asset begin to appreciate in value but at a sustainable level.
It is not going to be something where you see a rapid appreciation in the price of that asset.
If you’re investing you want to see sustainable growth over time not something that indicates that this may be a speculative bubble.
So, just to recap if you want to be a successful investor you have to invest without using your emotions.
You have to leave your emotions at the door because people who invest with their emotions are going to follow the herd.
They’re going to buy things out of excitement and sell them out of fear and as a result they’re going to lose money in the stock market.
Following the words of Warren Buffet you’re going to be greedy when others are fearful and fearful when others are greedy.
So, what means is when people are fearful and stock prices are down here. That is when you’re going to be greedy.
That is when you’re going to be loading up on shares and then when people are greedy and people are buying stocks left and right and the price is climbing.
That is when you’re going to be fearful. That is when you’re going to be selling. So, you want to buy from the pessimists and then sell to the optimists.
You want to buy low and sell a high and do the exact opposite of what everyone else out there is doing when it comes to the stock market if you want to be a successful stock market investor.
Thanks for reading this article…