Posted in Finance, Accounting and Economics Terms, Total Reads: 273
Definition: Regret Avoidance
Regret Avoidance is a situation where an investor would not accept the bad investment decision made to avoid the unpleasant feelings. In general emotions have a negative effect on investment decisions. There may be times when the markets are at the peak and an investor might invest money without any rationale just by sentimental value, if the market goes down from there then the investor would have made a bad decision riding on emotions. People usually throw good money after bad in these situations.
To understand regret avoidance it is imperative to have a basic understanding of ‘Behavioral Finance’.Most of the finance and economic theories believe that people make rational decisions all the time and the sole purpose of their investment is to maximize wealth. But this is not the case, there are a lot of factors that people keep in mind while making investment decisions and often end up making unfavourable decisions. Emotions and psychology both influence an investor’s decisions and they may interrupt with the rational thinking of an investor. Behavioral Finance studies the impact of emotions and psychology on investment decisions. These two factors impact the rationality of an investor by effecting the information they have resulting in bad decisions.
For example if HUL is trading at Rs.900 today and I believe that it will go down to Rs.880 in a few days as per my rationale and not emotions. If the share price reaches Rs.920 in the same time period I would ignore my rationale and make a decision to invest in HUL based on my emotions. If after that the price falls to Rs.800, I would be in the situation of regret avoidance because my emotions overwhelmed my rational mind and hence now I don’t want to accept this unpleasant feeling. Hence it is said that a good investor is one who can separate his/her emotions from investment decisions.