Understanding your emotions while investing

You invested $100,000 a year ago and today you are opening your statement for the first time.

Imagine two different possibilities: 1. Today your statement shows a value of $80,000, or 2. today when you open it up, it shows a value of $120,000.

Money can be emotional. In both cases, you experience a range of emotions.

If you are like most investors, the pain in the first example is a stronger emotion than the gratification in the second. Understanding these emotions and how they impact your decision-making process is critical when developing your investment plan.

The last thing an investor wants to do is allow the emotion from the markets to dictate their next buying or selling decision.

Establish realistic expectations

Everyone enjoys a high return on their investments. Few enjoy the risk necessary to achieve a higher return.

That is why it is necessary to first establish realistic expectations — both in return and risk for your portfolio.

Return is the easier part of the equation to answer. Most clients would probably say, “The higher the return, the better,” but typically this is not the case.

An investor must achieve a return that fulfills their needs and goals, but the question needs to be asked: “Is it necessary to chase a higher return and take on the risk that accompanies it?”

If the answer is yes, then the next question is, “Why?”

Success in investing is not always measured by the highest return.

Risk is a very emotional word in itself. Clarifying what risk means to you as an investor is the first step in managing it.

There are many types of risks when it comes to investing. Some view it as the chance of losing some or all of their money, while others believe it is the range of fluctuation in their investments over time.

It is important to identify how much, if any, drop in investment value is acceptable.

Determine level of acceptable risk

Human nature and the emotions of fear and greed make balancing risk and return in your investments very challenging. One of the keys to a successful investment plan is to make sure you have no surprises.

To do this, an investor has to be honest with their risk tolerance and identify an acceptable worse-case scenario for a drop in value.

Each person has a different level of acceptable risk. Finding this level is important and becomes interesting when dealing with couples that have different opinions on risk.

Knowing ahead of time a worst-case scenario for your portfolio can alleviate the emotional roller coaster of investing.

To fully appreciate or experience the emotion created in a worst-case scenario, a client must envision the decrease in their account using a dollar value — such as the examples above — not a percentage value.

Percentages never seem to fully capture the downside pain as much as a dollar amount.

No one enjoys seeing their account statement decrease, but if the downside fluctuation has already been established as a possibility, it becomes more tolerable.

Keys to take emotion out of investing

Establish realistic return and risk expectations. Identify what you consider an acceptable worst-case scenario.

This will help take the worry out of your investing.

There are enough things to worry about in the world. Your investment plan should not be one of them.

When it comes to your investments, being able to sleep at night is worth its weight in gold.

This article is provided by Pete Alepra, a financial adviser at RBC Wealth Management in Cedar Rapids; peter.alepra@rbc.com. The opinions in this article are for general information only and are not intended to provide specific advice or recommendations for any individual.

RBC Wealth Management is a division of RBC Capital Markets, a member of the NYSE, FINRA and SIPC. RBC Wealth Management does not provide tax or legal advice. All decisions regarding the tax or legal implications of your investments should be made in consultation with your independent tax or legal adviser.