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How Thinking
Affects Investing


Summary

To invest well requires us to develop our ability to think well and make decisions, even in difficult situations. Doing so, however, is difficult because our feelings and our intuition can get in the way, often without our knowing what is really happening.

Introduction

As investors, our goal is to make money. To do so, we buy assets that we hope will, one day, sell for more than we paid for them. Doing this with stocks or options is not easy, because the market in which we work is both complicated and unforgiving.

The best investment decisions happen when we acquire pertinent information, evaluate it logically, and then act rationally. Over the years, however, I have come to the conclusion that the most frustrating aspect of being an investor is that we invariably accumulate knowledge a lot faster than we accumulate wisdom. As such, all of us find ourselves making financial mistakes — sometimes, important financial mistakes — because we have, unconsciously, abandoned rational thinking for emotion and intuition.

A writer of economics like myself is privileged by his position to look down upon the mass of investors — analyzing and commenting upon their weaknesses and irrationalities. And yet, when I take the time to examine my own investment patterns, I must admit that, when it comes to buying and selling, I too suffer from many of the same weaknesses and irrationalities I see in others.

The branch of economics that studies such concerns is called BEHAVIORAL ECONOMICS. My goal in writing How Thinking Affects Investing is to introduce you to the most practical concepts of behavioral economics. Along the way, I will describe the ubiquitous habits and biases that influence us unconsciously (usually for the worse).

Specifically, we will be discussing what are called heuristics and cognitive biases: powerful patterns of thinking that can lead us astray without our being aware of what is happening. For each of these thinking patterns, I will explain how it affects our decision-making, and what you can do to mitigate its negative effects.

Finally, I will summarize what we have learned and suggest strategies you can follow to rise above your limitations and improve your long-term investing results.

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