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Part 4 and lastly: Making money has more to do with how we think than we think

By Dian Vujovich

The other day I came across this quote from Woodrow Wilson, our 28th president: “Golf is a game in which one endeavors to control a ball with implements ill adapted for the purpose.”

The same can be said about investing; everybody is trying to do something they basically are ill equipped to do. We don’t have to look any further than how our own government manages money to see the truth in that. Or, even our own personal lives.

Sadly, how we think can turn a portfolio of good intentions into a soured mess. Thanks to the world of behavioral finance, however, each of us can learn from our mis-thinks. (I’m not so sure that’s possible in government today where oh-so many have a say in how money is managed. But that’s a topic for 2012. Right now the focus is individual investors.)

“Classical finance does not take into account the emotions involved in decision making. It assumes we are all rational, but we aren’t. Understanding our personalities and how they shape our financial decision making is fundamentally important if as investors we are going to achieve good returns,” says Greg Davies, Head of Behavioral and Quantitative Finance, Barclays Wealth.

And he’s right. If only we didn’t have our emotions to deal with, making money might be a breeze. Then again, maybe not. Even when our emotions are under control the financial literacy learning curve can be a steep one.

But worry not about that, Daniel Egan, head of U.S. Behavioral Finance and also at Barclays Wealth, offers some broad investing advice that might make next year’s game of making money less emotional, more rewarding and even keep you out of the woods.

He suggests:

-“Be long-sighted: Markets encourage myopia. Lifting your eyes above the immediate future leads to better investment decision-making.

-Know yourself. We all have different strengths and weaknesses when it comes to investing. Being able to diagnose each allows you to put together a better portfolio and manage yourself.

-Build a tailored portfolio: Most portfolios have some real drag in them, either because of the investments in them, or because of how they make you react to rough patches. Use the right asset allocation and the right investment strategies to help you outperform yourself.

-Rebalance intelligently. Rebalancing to an asset allocation forces you to buy-lower, sell higher. Quarterly is the bare minimum you should rebalance.

-Take a holistic view of your risk exposures, and diversify. This may mean moving away from local investments, or industries you are familiar with so that idiosyncratic shocks don’t have catastrophic consequences.”

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