By DYAN MACHAN
If investors were truly rational, as traditional economics says they are, they'd never get caught in bubbles or pay 2 percent a year in mutual fund fees, says Dan Ariely. His research and that of other behavioral economists suggests that investors are hardwired to make mistakes like these:
1Ignoring the drip-drip of fees. Consumers notice price increases at the gas pump or the grocery store, but they tend to passively accept investment fees, especially those that are automatically deducted from their accounts. Our tolerance for paying in percentages is much greater than that for being charged dollar amounts, according to Ariely.
2Being cocky. Most investors optimistically believe they're better at investing than they actually are. Research by behavioral-finance pioneers Daniel Kahneman and Amos Tversky shows that people place a high value on "loss aversion," which leads them to avoid thinking about and learning from their past mistakes.
3Clinging to losers. We hold on to investments that have lost value, like stocks or homes, even when selling them
would add to our wealth, clinging to the belief they'll regain their old value. "Realizing losses brings on the searing pain of regret," says Meir Statman, professor of finance at Santa Clara University and author of What Investors Really Want.
4Chasing the expert herd. Inclined to trust experts, many investors jump from stocks to bonds and back again trying to time the market, following the most convincing advice. But investors who hold their investments steadily for several years earn higher returns, according to research by Statman and money manager Kenneth Fisher.