The Dangerous Illusion of ‘Free Money’ as An Investor (2024)

FAQs

The Dangerous Illusion of ‘Free Money’ as An Investor? ›

The dividend fallacy — believing that dividends are free money — is one of the most common mistakes investors make. In reality, dividends are not “free money.” Dividends are an inflexible, tax-inefficient way to receive investment income while reducing the diversification in a portfolio.

The disposition effect is an anomaly discovered in behavioral finance. It relates to the tendency of investors to sell assets that have increased in value, while keeping assets that have dropped in value.

The house money effect is a theory used to explain the tendency of investors to take on greater risk when reinvesting profit earned through investing than they would when investing their savings or wages.

The least essential criterion while making an investment decision is the mode of investing money. Whether the deposits can be made online or directly by cash or check does not significantly influence the investor's decision-making process.

The disposition effect refers to our tendency to prematurely sell assets that have made financial gains, while holding on to assets that are losing money. We are driven to sell our winning investments in order to ensure a profit, but are averse to selling losing investments in hopes of turning them into gains.

The second effect is the Snake Bite Effect. Everyone has experiences that cause them to become suddenly more cautious than they normally would. The saying “fool me once shame on you, fool me twice shame on me” is good description of this behavior pattern.

On the other hand, Thaler and Johnson also note that prior losses lead to risk-seeking behavior in situations where future outcomes offering an opportunity to break even look particularly attractive. This result is termed the break-even effect.

Myopic loss aversion occurs when investors take a view of their investments that is strongly focused on the short term, leading them to react too negatively to recent losses, which may be at the expense of long-term benefits (Thaler et al., 1997).

What is the least risky thing to invest in? ›

The Bottom Line

Safe assets such as U.S. Treasury securities, high-yield savings accounts, money market funds, and certain types of bonds and annuities offer a lower risk investment option for those prioritizing capital preservation and steady, albeit generally lower, returns.

Dispositional affect, similar to mood, is a personality trait or overall tendency to respond to situations in stable, predictable ways. This trait is expressed by the tendency to see things in a positive or negative way.

The disposition effect, or the tendency for investors to close out winning positions faster than losing ones, is a behavioural finance anomaly, observed in many populations including non-professional investors (Odean, 1998; Grinblatt and Keloharju, 2001; Shapira and Venezia, 2001; Dhar and Zhu, 2002; Barber et al., ...

To calculate the disposition effect, we follow Odean (1998) by computing the number of units sold at a price above the reference price (“Realized Gains”), the number of units sold at a price below the reference price (“Realized Losses”), the number of units not sold and whose price exceeds the reference price (“Paper ...

The disposition effect refers to the tendency of traders to hold on to losing trades while rapidly selling winners, driven by the aversion to realising losses. Conversely, the endowment effect refers to traders' inclination to overvalue an asset simply because they own it.