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SEC Investor Bulletin: Behavioral Patterns of U.S. Investors

What investing behaviors undermine investment performance?

“Disposition Effect: The disposition effect is the tendency of an investor to hold on to losing investments too long and sell winning investments too soon. In the months following the sale of winning investments, these investments often continue to outperform the losing investments still held in the investor’s portfolio.

Focusing on Past Performance of Mutual Funds and Ignoring Fees: When deciding to purchase shares in a mutual fund, the Report indicates that some investors focus primarily on the mutual fund’s past annualized returns and tend to disregard the fund’s expense ratios, transaction costs, and load fees, despite the harm these costs and fees can do to their investment returns.

Familiarity Bias: Familiarity bias refers to the tendency of an investor to favor investments from the investor’s own country, region, state or company. Familiarity bias also includes an investor’s preference for “glamour investments;” that is, well-known and/or popular investments. Familiarity bias may cause an investor’s portfolio to be inadequately diversified, which can increase the portfolio’s risk exposure…

Naïve Diversification: Naïve diversification occurs when an investor, given a number of investment options, chooses to invest equally in all of these options. While this strategy may not necessarily result in diminished performance, it may increase the risk exposure of an investor’s portfolio depending upon the risk level of each investment option.

Noise Trading: Noise trading occurs when an investor makes a decision to buy or sell an investment without the use of fundamental data (that is, economic, financial, and other qualitative or quantitative data that can affect the value of the investment). Noise traders generally have poor timing, follow trends, and overreact to good and bad news in the market.”

To read the Investor Bulletin in its entirety: click on the following link: http://www.sec.gov/oiea/investor-alerts-bulletins/ib_behavioralpatterns.html#.U761cigo7DA

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