Investing in Self-efficacy: How does this concept make a BIG difference in your investments?

Wednesday: The Independent Investor FROM THE DESK OF MILES EVERSON: Happy mid-week, everyone! We’re excited to share with you another investing tip. Every Wednesday, we publish articles about great investment strategies and insights because we want to help you get on the path towards true financial freedom. Ready to know more about today’s topic? Continue reading below. CEO, MBO Partners Chairman of the Advisory Board, The I Institute

Investing in Self-efficacy: How does this concept make a BIG difference in your investments? In one of the coaching comments Professor Joel Litman delivered to his employees at Valens Research, he talked about buying a “Bobo The Clown” doll for his youngest son. According to him, this toy can teach investors lots of great investment insights! Just a brief background: “Bobo The Clown” is a 4-foot tall inflatable that has a weighted base. No matter what you do to the toy—like pulling it down to the floor or punching it hard many times—it stands right back up. The inflatable toy also became famous in an experiment made by psychologist Albert Bandura. He used the “Bobo The Clown” doll in the 1960s to conduct an experiment on how adult behavior influences children. Here’s how the experiment played out… Two groups of preschoolers were in separate rooms with the “Bobo The Clown” doll. In the first group, a number of researchers showed kind behavior towards the toy. In the second group, the same researchers hit, kicked, and verbally abused the toy. The result of the experiment showed children who were exposed to aggression became far more violent towards the “Bobo The Clown” doll compared to the other group. According to Professor Litman, it’s not surprising to hear nowadays that children mimic the actions of adults around them. However, in the 1960s, Bandura’s study was groundbreaking because at that time, most experts thought kids were mainly influenced by risk and reward, not visual exposure. The experiment even pushed the US Federal Trade Commission to pass new standards for advertising! This was because some commercials, such as a headache medicine commercial where a person whacked someone else in the head with a mallet, could have a negative impact on young viewers. There’s more! Bandura’s study went beyond the “Bobo The Clown” doll experiments. He also focused on self-efficacy, which is a person’s belief he or she can accomplish his or her goal and overcome various circumstances. Bandura’s research showed the more someone believes in his or her own ability to do something, the more likely he or she will succeed. In other words, it’s a person’s belief in his or her own power—or sense of self-efficacy—that makes a BIG difference. This means as an individual, you’re not powerless even if you grew up in negative “Bobo The Clown”-like environments. Self-Efficacy and Investing While self-efficacy may not be a term commonly heard outside academic discussions, it is a concept with many applications for investors and financial planners alike. In fact, it can also be a broad psychological concept that can apply to any area in one’s life. Let’s focus on financial self-efficacy for now… According to Bandura, this concept relates specifically to your expectations of your ability to engage in a particular behavior, which is distinct from your expectations about the outcome of that behavior. Example: You can fully understand saving money and investing are essential to building a healthy retirement income. However, if you don’t believe you can afford to spend less and save more money in the first place, then your knowledge won’t influence your actual behavior. What does this tell you? Financial knowledge isn’t enough. You need financial self-efficacy as well. This is a key component of actually changing your financial behavior for the better. There are 4 primary sources that help you build self-efficacy: Performance accomplishment - This refers to ways in which you learn from your successes and failures in accomplishing a certain task. The more success you attain as an investor, the greater your confidence that you can be more successful in the future. Vicarious experiences - This refers to ways in which you model your behavior after those around you. For instance: You may look up to a veteran investor who has been successful for many years now and mimic his or her behavior. This type of learning can help reduce your uncertainty about how you should invest in the stock market, and seeing others successfully invest can inspire you in your ability to do the same. Verbal accomplishments - This refers to ways in which humans motivate or influence one another. For example: Your financial adviser may instill belief that you can attain success in situations where you do not have prior experience or may have failed in the past. As a result, you’ll be more confident to act on your investments. Emotional triggers - This refers to ways in which your emotions can influence your confidence in your ability to be successful. This can either increase or decrease your self-efficacy. Take note of these 4 primary sources of self-efficacy! These will provide you with the self-empowerment you need to make better investment decisions or strategies. — According to Professor Litman, one of the key components of self-efficacy is balance. Why? In good times, some investors tend to attribute all of their solid returns to their own trading prowess. This creates a feedback loop—strong markets make investors believe their success is solely based on their own hard work. … but when the market dips temporarily, these investors will also be the first ones to throw up their hands in frustration. They feel powerless to the downtrends. It also doesn’t help that the financial media is constantly hanging doom-and-gloom scenarios over their heads. So, whether you’re investing your money in the stock market for your child’s future and your retirement or investing as a billionaire, or whether the stock market is stable or volatile, you have to check your ego at the door. Be ready to take action and navigate the markets… and not let yourself get carried away by the “financial tide.” We hope you learned a lot from today’s “The Independent Investor” article! Always remember that having a sense of self-efficacy means relying on a balance between temperance and tools. You must know how to keep your cool, and maximize the available data and trading strategies to be the best possible investor. It’s time to BELIEVE in your own investing prowess! Hope you’ve found this week’s insights interesting and helpful. Follow us on LinkedIn.     Stay tuned for next Wednesday’s The Independent Investor! Peter Lynch, the former fund manager of the Magellan Fund at Fidelity Investments, once said: “You get recessions, you have stock market declines. If you don’t understand that’s going to happen, then you’re not ready, you won’t do well in the markets.” Learn more about this fifth investing discipline in next week’s article!