INVESTORS OFTEN think of their portfolio as conservative or aggressive. More conservative investors put a larger percentage of their portfolio in bonds, while aggressive investors favor stocks. But there’s a different meaning of the word “conservative”—what I think of as behavioral conservatism.
Conservatism means you lean toward the safe side. You favor things that are familiar, preferring them to the new and uncommon. The dictionary definition of conservatism is this: commitment to traditional values and ideas, with opposition to change or innovation.
This might be reflected in your investment portfolio. You have a bigger position in your home country, the industry where you work or your employer’s stock. The familiarity makes you more comfortable—it’s what you know. Problem is, those good feelings have consequences. With too much allocated to one country or company, you may not be as diversified as you thought.
Another sign of conservatism: You opt for the default 401(k) choices. The plan’s auto-enrollment feature may have you contributing just 3% of your paycheck. That’s a decent start. But you won’t be happy with your retirement if you stick with that 3%.
Want to avoid the trap of behavioral conservatism? Here are five strategies that’ll help you step outside your comfort zone:
1. Take your time. Try reducing the number of impulse decisions you make. That’s right, I’m giving you permission to procrastinate. You’re more likely to favor the financially familiar when you make impulse decisions, such as when offered an “exclusive” investment opportunity or when choosing a health insurance plan during open enrollment. My advice: Slow it down, evaluate your options—and make a less pressured decision.
2. Buy the unfamiliar. One of the most common investing tips I hear is “buy what you know.” It was made famous by the legendary investor Peter Lynch.
But in truth, investing is much more complex than simply purchasing shares of Apple because all your friends own an iPhone. Humans tend to feel they’re taking less risk when they invest in a company that’s familiar. The danger: This approach can leave your portfolio with a few overly large positions. Instead, look to invest in companies, industries and countries that are foreign to you.
3. Invest across the globe. It’s easier than ever to invest your portfolio across the world utilizing low-cost index funds—and you’ll be better diversified than if you give into “home bias.” Mutual fund companies also have all-in-one funds that can provide you with a fully diversified portfolio that’s automatically rebalanced. Alternatively, you can simply add international funds to offset the excessive exposure your portfolio might already have to your home country.
4. Use your 401(k) plan’s auto-increase feature. Are you saving just a small amount of each paycheck and you can’t get yourself to contribute more? Your 401(k) plan may have an auto-increase feature that boosts your contribution at a set time in the future. A 1% auto-increase once or twice per year will get you headed in the right direction.
5. Prepare for the worst. Before taking investment risks, make sure your life’s financial foundation is in good order. My philosophy: Once money goes into an investment account, it should stay there for the long haul. For that to happen, you first need to build up your emergency fund and pay off any consumer debt, especially credit card debt. That way, you won’t have to dip into your investment portfolio to pay for short-term needs—and that should give you the confidence to buy less familiar investments.
Ross Menke is a certified financial planner and the founder of Lyndale Financial, a fee-only financial planning firm in Nashville, Tennessee. He’s passionate about helping folks make financial decisions that reflect their true purpose. Ross’s previous blogs include Hole-in-One, Seeking Certainty and Spending Happily. Follow Ross on Twitter @RossVMenke.
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