Hopefully this article can help. I’ve just been reading a fascinating book called The Chimp Paradox, by Dr Steve Peters. Never heard of him? Well, he is the psychiatrist for the British cycling team, and is the guy credited for making the difference for some of Britain’s Olympic gold medallists.
What Peters has done is take the latest findings from the blossoming science of the brain, and explains it in simple, easily-understandable terms.
Three brains are worse than one
The premise of this book is that humans have not one, but three brains, which the author calls the Human, the Chimp, and the Computer.
The Human is the rational, logical brain. It interprets information by searching for the facts and establishing the truth. It thinks ahead and sets things in perspective. It is, to all intents and purposes, ‘the real you’. It is what differentiates us from apes, and it is what created modern society, with its social etiquette, rules and laws.
In contrast, the Chimp is the emotional brain. It interprets information with feelings and impressions. It thinks about everything emotionally. It often makes guesses and fills in the details with hunches, paranoid feelings or defensive thoughts. It is the brain that developed as monkeys evolved, and thus is designed for survival in the jungle, rather than for today’s modern world.
And thirdly, the Computer is a storage area for thoughts and behaviours, which it uses to act in an automatic way.
The relevance to investing
What has this got to do with investing? Well, I must admit Dr Peters never mentions investing in his book. But then neither does he mention Olympic cycling. The point is that he has revealed the conflict that goes on in our heads every day of our lives. And this is of key importance if you want to understand the psychology of investing.
In short, the way we behave, and also the way we invest, is really a battle between the Human and the Chimp.
While the Human brain tells the investor to look at the long term, to buy shares which are oversold, and to remain calm whatever the circumstances, the Chimp brain has a tendency to panic during any fluctuation, and will scream “sell!” when a share falls in price, and “buy!” when it rises in price.
That’s why you must never listen to your emotions when you are investing. What is happening is your emotional Chimp brain is shouting louder than your Human brain. The Chimp rapidly jumps to opinions, is prone to paranoia and can think catastrophically.
When a share you have invested in falls in price, your Chimp goes into overdrive. “The share is going to crash!” screams your monkey. “Sell out while you still can!”
Yet your Human is saying “Don’t worry. This is just short-term fluctuation. The reasons why you bought this share haven’t changed.”
Many people end up listening to their Chimp and selling, only to see the share price subsequently recover. Like most dumb, Chimp-ruled investors, they sell at the bottom, and buy at the top.
Manage your Chimp
So what can be done to change your behaviour? Well, you need to control your Chimp. But, I’m afraid, that’s not as easy as it seems, because your Chimp is five times stronger than the Human. If it is down to simple will power, then the Chimp will always win.
Instead, you need to manage your Chimp. First you need to exercise your Chimp. This means letting it sound off, either by talking to a friend, or just talking through its worries by yourself. Let your Chimp talk through all the arguments about selling your shares. Keep on going until the Chimp is tired.
Then, you need to box the Chimp. You can do this by telling the Chimp truths that it can accept. Explain the Human logic of the situation. “Shares will always fluctuate — that doesn’t mean you always have to sell. Be patient, and the value will out. Let’s have a little perspective on this….” Eventually the Chimp will listen to these truths and will settle down. If it does, then you have won your battle with your emotional mind.
I’m afraid there is only room in this article for a very brief taster of what is in Steve Peters’ book. If you want to learn more about how to control your inner Chimp, you will need to read the book itself.
But if you want a single take-home message, it is that, all too often, investors are dominated by their Chimps. Learning to master your emotional mind won’t win you an Olympic gold, but it might just make you a more successful investor, and a better person, to boot.
Full Article: http://finance.ninemsn.com.au/newsbusiness/motley/8433951/investing-badly-blame-your-chimp-brain