If considering your investment options feels overwhelming, you might be falling into a common mental trap.
"One of the biggest challenges facing investors, now more than ever, is choice overload," says Jeff Kreisler, editor-in-chief of PeopleScience.com and coauthor of "Dollars and Sense: How We Misthink Money and How to Spend Smarter." This is an example of a cognitive bias, or something that causes us to unconsciously make poor decisions, he explains.
"When we have so many choices and so much information, it can just become overwhelming and almost crippling," Kreisler says. "No matter what we decide to do, we feel like we've made the wrong decision because we see so many other options. It can really be a detriment."
A classic study on choice overload analyzed supermarket shoppers trying to pick a jar of jam and noted that consumers were 10 times as likely to buy when offered a choice of six varieties as they were when offered a choice of 24.
Your choice of investment assets is much broader. On U.S. exchanges alone, investors can select from more than 4,000 publicly traded stocks, 2,000-plus exchange-traded funds (ETFs), and more than 9,000 mutual funds. In addition to the sheer number of options, there's also a lot of information about these investments from a variety of sources.
So how can you narrow the thousands of investment options when you're starting out? Setting a few parameters can eliminate a lot of options in one fell swoop—look for only low-fee investments, for example, or ones that track a particular index.
"It's often better to sort of curate your choices or have your choices curated for you and narrowed down to a few than try to think of all the possibilities out there, because that's when we get overwhelmed," Kreisler says.
With a more narrow set of options, you can use some other techniques to make a decision—like playing devil's advocate. "Think about what's the worst thing that could happen," and see if the answer to that provides new information to counteract what's preventing you from making a decision, Kreisler says.
Video by Courtney Stith
Using a buddy system — explaining your decisions to a spouse, partner, or friend — can also help you to identify when you make decisions in an emotional state versus a rational one, he adds.
Kreisler recently sat down with Grow to explain some of the common cognitive biases affecting investors. Check out the video above for additional examples, as well as tips for how to counteract these biases.
Here are some other Grow resources that can help:
- 5 Tricks Your Brain Plays on You That Can Affect Your Investing Success. Watch out for these five cognitive biases when investing.
- Why Your Investing Instincts Are Wrong (and How to Right Them). One common investor pitfall is selling your investments at the wrong time. Here's how to avoid making that emotional mistake.
- 4 Ways We're Wired to Make Investing Mistakes (and How to Overcome Them). Common investment biases can betray your better sensibilities if you're not careful.
- 5 Reasons We Overspend and Undersave. Irrational decision-making isn't confined to investing. It can also affect how you spend and save.
- The Scientific Reason You Shouldn't Make a Money Decision After 6 pm. Mental fatigue can lead you to make financial decisions you may later regret.