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www.insideHALTON.com | OAKVILLE BEAVER | Thursday, September 22, 2016 | 22 Behavioural finance and the illogic of `mental accounting' Dollars & T Sense his column is the third discussion in the three-part series on behavioural nance, dealing with the pitfalls of human behaviour and investing. We all invest with con dence and enthusiasm and no matter how diligent we attempt to be, human behaviour gets in the way and causes us to make "human" mistakes. Most investors realize how important it is to diversify an investment portfolio. Investment theory shows the importance of diversi cation. A successful portfolio that is well diversied is likely to provide the investor with a Peter Watson Guest Contributor higher return, with lower risk, than if diversi cation was not used. Many investors appreciate the importance of diversi cation. Holding many different investments Many styles and sizes Instant savings SUPER SALE SWITCH & SAVE LED Use up to 80% less electricity* 20+ years of life* Final Weekend! Limit of 25 per item, per customer. Sept 24-25 Offer applies to select Philips LED bulbs only. means some years some investments will do better, or worse, than other investments you own. That is normal and should be expected. Financial theory suggests you consider all your investments as one portfolio and evaluate the performance of your portfolio as a single entity, as opposed to the diverse component parts. Sounds logical. Logical yes, however, in reality, something different happens. Assume you had purchased several investments in equal amounts. At the end of the year, one investment had appreciated by $6,000 while another lost $5,000. Human behaviour research suggests the investor is likely to dwell on the $5,000 loss despite the fact another equal sized investment appreciated by $6,000. This illogical thought process is referred to as mental accounting, and takes the focus away from the overall portfolio and the advantages of diversi cation. Some investors might misuse this information and adjust their investment portfolio in a harmful way. They might be inclined to sell the investment that lost and use those funds to increase the investment that had appreciated. That would be ne if last year's investment performance was an indicator of next year's performance, however, that is far from the truth. There is little correlation between investment performance from year-to-year. The risk of investing is you do not know the results in advance and have no way of predicting them accurately. You can use investment theory and logic combined with good judgment, but in the short term investing is not predictable. Several aspects of investing are known and well understood. Invest for the long term with a well-diversi ed portfolio that is custom made for your nancial objectives and risk tolerance. That is the formula for success. Some call that evidence-based investing, which means use what is known about investing to develop your own personal investment strategy. Over-managing your investment portfolio by focusing on short-term winners and losers is a human characteristic you will hopefully recognize, and not allow to encourage you to make short-term, reactive, decisions. The common theme of the last three columns is the study of behavioural nance can help us all better understand how human behaviour can make us poor investors. My recommendation is to understand the fundamentals of investing as well as to appreciate, and try to avoid, the human tendencies that can hinder your personal long-term investment performance. -- Submitted by Peter Watson of Peter Watson Investments and Aligned Capital Partners Inc., MBA, CFP , R.F .P ., CIM, FCSI., Certi ed Financial Planner Available at participating THE HOME DEPOT stores. ledsupersale.ca Only at OABE nomination deadline Sept. 30 Sept., 30 is the deadline to nominate a company that is excelling in its class for an Oakville Awards for Business Excellence (OABE). The Oakville Chamber of Commerce, in partnership with the Rotary Club of Oakville West, is accepting nominations for 11 awards that are up for grabs at the 22nd OABE, taking place in March 2017. 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