Is FOMO hurting your returns?

There's an interesting conundrum in investing, where the focus is on the big winners, with Blackmores being a recent and notable example. 

But the fact is you can miss out on hundreds of investing opportunities and still do well. What you really can't afford to do is back too many duds. Do that and you're sure to do poorly.

Yet in 2007, a Stanford University study found that what we fear most in investing isn't the risk of loss, but the risk that we do worse than everyone else. We don't fear being poor nearly as much as we fear being poor when those around us are rich – and that causes us to engage in some very risky behaviour.

First, it means we're particularly attracted to 'lottery ticket' stocks – pioneering biotechs, speculative miners, or 'the next Apple'. We all love a good story, but as everyone gets on the bandwagon, prices rise and the stocks very often become overvalued.

Strangely though, the Stanford researchers found that even if investors recognise the stock is overpriced, their fear of diverging from the crowd and watching the stock continue to go up means they often refuse to sell. The fear of missing out (FOMO) costs investors a great deal in the long term.

The truth is, if you insist on buying a stock with a margin of safety – where it's trading at a price far less than you believe it to be worth – it's inevitable that you'll miss more than a few winners.

Blackmores could double in price from here but that doesn't mean it was a mistake to sell a month ago.

If you aren't not being adequately compensated for the risk of hanging on and can happily disregard FOMO, selling makes perfect sense. A rising share price after you have sold is not proof that your decision was wrong.

Producing good long term returns isn't about picking winners alone; avoiding losses is just as important. And to do that you have to be ready to take a pass on the vast majority of stocks and accept that it may mean you miss a few big winners.

Missed opportunities are annoying but they deserve to be celebrated. They're a reminder that you have stringent investment criteria, and that will serve you far better over time than jumping on every bandwagon.

Disclosure: The author does not own any shares in Blackmores.