AI has become a hot topic over the past few years, as rapid developments in the field have led to AI infiltrating many areas of our everyday lives.
While we’re not talking a Terminator-like Skynet situation, easily accessible apps and platforms have helped simplify everything from daily travel to healthcare checks and shopping decisions.
Recently, AI has found its way into the world of investing, starting a debate about whether the technology is a positive or negative development for investors and fund managers.
Read on to find out why AI’s emotionless approach to investing might help you make better choices.
Early research shows AI outperforming the most popular active investment funds
According to CNN Business, a study pitted an investment portfolio developed by ChatGPT against one comprised of the UK’s most popular investment funds.
In the period between 6 March and 28 April 2023, the AI-generated portfolio gained 4.9% while the leading investment funds saw an average loss of 0.8%.
While research is still in its infancy, one potential reason for AI outperforming human-managed funds is simply the role of emotions.
Over the long term, stock markets typically see positive returns for patient investors who retain their investments and reinvest dividends. An “emotionless”, passive approach might yield better returns for investors.
For example, Hargreaves Lansdown reports that over the 20-year period between the end of 2002 and 2022, the FTSE 100 — the UK’s leading stock market index — grew 297.36%, which would have turned an initial investment of £10,000 into £39,736.
Meanwhile, according to IG, the price return of the FTSE 100 between 31 December 2012 and 31 December 2022 was just over 23%. However, with dividends reinvested the return was more than 84%, which would have seen an initial £10,000 investment grow by around £8,500 in just 10 years.
It is possible that by removing emotions from the equation — and thinking logically like AI — investors might produce better outcomes.
Human beings are emotional creatures, capable of making ill-informed investing decisions
FTAdviser reports that short-term market moves have been worrying investors. Information sourced from Embark found that, of those surveyed:
- 61% of investors reported having discussed market volatility with their advisers in the past year
- 47% of advisers found their clients were too easily influenced by the news
- Investors lost 2% each year in forgone returns due to emotion-based decision-making.
Unfortunately, unlike AI, people are affected by their emotional states and can fall victim to psychological biases that may influence their investing decisions.
3 psychological biases that might affect your investing choices
1. “Loss aversion” might make you fear potential losses and prompt knee-jerk reactions
The theory of “loss aversion” posits that the pain associated with loss is felt twice as strongly as any joy produced by gains.
This can prompt you to give into frustration, anger, and fear during periods of economic downturn and look to sell your investments to mitigate potential losses.
However, this can be a harmful move in the long term, as it effectively converts what might have been a paper loss into an actual one. This removes any potential for your investment to bounce back in the future.
Remember: if you are calm and patient, your investments will likely recover from short-term dips and continue to grow over the long term.
2. “Herd behaviour” could lead you to worry about potentially missing out
“Herd behaviour” is when investors decide to follow the opinions or choices of others, instead of opting to make their own informed decisions.
This can be especially true when you see news on your social media feed or a major headline about investors moving their funds into a certain stock. You may worry about missing out on potential returns that investment might make — so decide to follow suit.
This could lead to the potential for losses if the investment doesn’t work out. Some classic examples from history include Dutch tulip mania in the 17th century and the dot-com bubble in the late 1990s.
It is vital that you remember to think for yourself and avoid following the herd.
3. The “overconfidence effect” might make you feel overly sure of yourself
The “overconfidence effect” is a psychological bias that can skew your perception by making you believe your judgement is greater than its actual objective accuracy.
For example, if you have a string of short-term investments that produce sizeable returns, you may fall victim to this bias. According to ResearchGate, overconfidence can push investors to overestimate their abilities or knowledge, which can lead to detrimental outcomes.
If you succumb to overconfidence, you may mistakenly believe you can predict the market, which very rarely happens and can be harmful to your long-term investing outlook.
Read more: 7 harmful biases you might need to overcome to protect your investments
At Grey Parrot, we adopt a passive, evidence-based investing strategy
Our investment strategy is built around:
- Backing up investing decisions with cold, hard data
- Reducing risk by not chasing quick gains
- Focusing on the long term
- Putting our clients’ needs first, and potential solutions second.
We use historical evidence and carefully researched data to inform the recommendations we make. And we will always encourage you to develop a well-diversified portfolio designed to reduce the potential for risk.
Our passive approach is built around a “buy-and-hold” strategy that looks to reduce costs, risks, and time spent managing investments.
Remember: very few active fund managers beat the market in the long run.
According to The Motley Fool, Fidelity analysed its clients’ portfolios between 2003 and 2013 and determined that the best-performing portfolios were owned by those who hadn’t touched their investments. Shockingly, many of these successful investors were actually already dead.
As much as our emotions might encourage us to take a proactive approach and react to situations, that can be detrimental to actual outcomes. Adopting a calm, patient, and impassive look at your portfolio could lead to the kind of positive growth you’re seeking in the long term.
Get in touch
If you’re concerned that the news cycle might be prompting you to make rash decisions, a good first step could be to seek out professional advice. Contact us by email at info@grey-parrot.co.uk or call us at 02039 871782.
Please note
This article is no substitute for financial advice and should not be treated as such. To determine the best course of action for your individual circumstances, please contact us.
The value of your investments (and any income from them) can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Investments should be considered over the longer term and should fit in with your overall attitude to risk and financial circumstances.
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