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THE
EMOTIONAL
Investor
How well can we read our emotions? How well do we manage them?
BY SUSAN TRAMMELL, CFA
A
growing body of EMOTIONAL Intelligence
research suggests that How well can we read our own emo- Research Group; Peter Salovey (who
investment decisions tions? How well do we manage them? previously developed the four-compo-
Self-awareness and the ability to nent model used in the study), dean of
are heavily informed by emo-
cope with our emotions is a measure of Yale College in New Haven, CT, and
tions, which can be measured, emotional intelligence (EI) or emo- professor of psychology at Yale
analyzed, and perhaps incor- tional competence. Ongoing research is University; and two fellow
porated into predictive models. exploring the relationship between researchers—found that the data sug-
investor behavior and such psychologi- gest a significant link between aspects
This article looks at three con-
cal influences as impulse control and of investors’ emotional intelligence and
cepts—emotional intelligence, perseverance. In fact, one team of their “exchange,” or trading, activity.
emotional accounting, and researchers may have found a link Those scoring in the highest quintile
emotional finance—that involve between individuals’ EI and trading for perceiving emotions tended to trade
incidence. more frequently than those scoring in
the impact of emotion on
In early 2007, more than 1,300 the lowest quintile. Those who scored
investor behavior. The develop- Vanguard investors were administered in the highest quintile for managing
ment of each concept draws an online test of EI. The investors were emotions tended to trade less fre-
on decades of research and born between 1946 and 1964 and had quently than those in the lowest quin-
a required minimal level of savings in tile. (See Figure 1.) These relationships
applies it to the field of
an individual retirement account. were observed even after the
finance, and all may be cata- Almost 70 percent of the respondents researchers controlled for major demo-
lysts for further research. were male, and the majority were graphic factors.
highly educated, married, still The data paint a picture of con-
employed, and reported household trasts: the steely nerved investor who is
assets of at least US$500,000. skilled at subordinating the stimuli of
The goal of the research was to market signals versus the investor who
determine whether a relationship exists is better at recognizing emotional sig-
between the observed behavior among nals and can thus react quickly to
a set of Vanguard investors and varia- volatility in the marketplace.
tions in the four components of an EI “I think, first and foremost, these
model: perceiving, understanding, using, tools help us to understand the factors
Illustrations: Robert Meganck
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to prominence in the mid-20th century. L (loving), H (hating), and K (knowing). trace the occasional mass exuberance
The resulting paradigm, rooted in (See Figure 3.) By recognizing that we of the market to the development of a
Freudian psychoanalysis, forms the both love and hate people and objects, predominant paranoid-schizoid mood.
foundation of what Tuckett and Taffler we mature and appreciate reality, thus In such a state of mind, speculative
call “emotional finance.” reaching the depressive (D) position. investments are idealized to the point
Klein described two basic mental In a paranoid-schizoid (PS) state, of becoming what they term “phantas-
states—the paranoid-schizoid and the we split ambivalent feelings of love and tic objects.” The objects are fantasies,
depressive positions—and proposed that hate so that we elevate a person’s or an in that they unconsciously represent
people oscillate between the two. When object’s positive attributes and their the opportunity to fulfill one’s deepest
we are in a depressive state of mind, we deficiencies simultaneously but are desires, creating the impression that
generally see people and things as they aware of only one such attitude and the what had been thought impossible
are—a blend of desirable and undesir- feeling it induces at any time. Splitting might be attained after all.
able attributes producing mixed feel- is accompanied by an unconscious anx- Investors in a paranoid-schizoid
ings. Such a realistic view of another iety that is the basis for crushing rever- state necessarily split off awareness of
person or object allows us to experi- sals in confidence or trust in people feelings of uneasiness and doubt associ-
ence the consequences of the other’s or objects, such as can be seen in the ated with the object of their affections.
imperfections while enjoying the pleas- current markets. Rather than recognizing that there is
ure they bring us at the same time. Taffler and Tuckett are particularly good and bad in every investment, they
Bion’s related work established three interested in how emotional states of bestow attributes of perfection on an
fundamental emotional relationships: mind affect investor judgment. They investment and assign exorbitant values
T
he research conducted by John Ameriks, Peter The foundation fulfills its mission by publishing books
Salovey, and colleagues on emotional intelligence on the topics of interest, such as the upcoming monograph
and investor behavior was underwritten by a grant on emotional intelligence. In addition, it publishes literature
from the Research Foundation of CFA Institute and will be reviews on a variety of subjects—from behavioral finance to
the subject of a forthcoming Research Foundation book. (A private equity and credit risk. The reviews are designed to
preliminary account of the research is available in the article give readers a one-stop shop for accessing the most impor-
“Emotional Intelligence and Investor Behavior” published in tant research in a particular field. The foundation also
Vanguard Perspectives. The article can be accessed online at conducts educational seminars, much of which is available
https://institutional.vanguard.com/iip/pdf/ICRVIPF2007.pdf). at no charge via webcasts at www.cfawebcasts.org. The
The Research Foundation was established in 1965 as a Research Foundation workshop held in conjunction with the
separate governing body of CFA Institute. It is funded by an CFA Institute 2008 Annual Conference focused on behavioral
endowment earmarked for supporting research projects and finance. Registration and information about all CFA Institute
disseminating information of practical value to investment and Research Foundation workshops and seminars can be
professionals. found in the Conferences area of the CFA Institute website.
Selecting foundation grant recipients starts with identi- CFA charterholders and other members of CFA Institute
fying emerging areas that are likely to have a major impact in are encouraged to use the Research Foundation’s resources.
the fields of investment and finance. Laurence Siegel of the All foundation publications are available without charge at
Ford Foundation, New York City, is currently research direc- www.cfapubs.org, and CFA Institute members can sign up to
tor of the Research Foundation. His task is to solicit and receive hard copies of forthcoming books by visiting the
secure the best thinking in the targeted areas. sidebar at www.cfainstitute.org/foundation.
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