Stress can cause our brains to react with powerful emotions.
We all have emotional responses that we don’t fully recognise, when it comes to investing our money.
Unconscious or instinctive reactions can lead even the savviest investors, to make big mistakes.
Investing in real estate can be one of the most stressful and emotional transactions of your life.
Here are 3 of the most dangerous mistakes that can be related to our unconscious behavior:
- The denomination effect
Studies have shown that people hesitate to break a $50 note, but will readily spend 3 x $10 notes and 4 x $5 notes.
When the value of a bank note is smaller, we feel like we are spending less.
This is known as the denomination effect and it can also affect the brain of a real estate investor.
For example, some investors will buy a property because it is underpriced but may need a lot of work.
By the time all the improvements have been made and they have finally found a tenant, they have spent even more than they would have, if they bought property with a higher price tag.
- Loss Aversion
Research has shown that the pain of losing something is greater in our minds, than the pleasure we feel from winning.
Hating losing more than loving winning, can cause investors to exaggerate risk and play it safe.
Even if the chances of making money are higher than losing money, most investors will avoid some opportunities altogether.
Loss aversion can make investors reluctant to sell when prices fall, even if it is unlikely that prices will go up again soon.
Hanging onto a property that has lost money, can make investors miss out on opportunities to invest money in something more profitable.
- Status Quo Bias
Humans tend to think that things are likely to remain the same, because of the way our recent memory works.
Real estate prices rise and fall and then do it again and again.
When investors buy into a hot market, they expect it to keep going up and up- this is what we call “status quo bias’ , because it makes investors forget about the cycles.
Change is hard and status quo is easy.
The best way to beat this bias is to procrastinate.
Studies in behavioural economics show, that if people are given less time to make a particular decision-they will leave things unchanged.
However, when people are given more time to make a decision, they are more likely to make decisions based on fact, than the comfort of status quo.
To sum up, before you make another real estate investment- Stop and make sure that your emotions are not costing you money.
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