Gil’s Musings

Framed by Your Investor Behavior

I have written many past musings on the topic of investor behavior. I point out these human idiosyncrasies and how they play out with the hope that some investors will spot within themselves the issues I raise and possibly make wiser decisions going forward.

One of the topics we have not written about before is the topic of “framing” or “anchoring.” These are terms psychologists use to describe a decision process in which what we perceive about a situation today is based on a frame of reference or anchor point in the past. This “anchoring” concept often manifests itself with investors who acquired employer stock while working for the company. It could also be inherited stock where the company’s shares might even be considered a family heirloom. One way or another, these factors contribute to an emotional attachment that goes beyond the math of ownership.

In and of itself, an emotional attachment to a stock is not a bad thing. This natural bias toward wanting to keep particular shares can have some positive side effects. The most notable positive is that it increases the chance of a tax-free step-up in basis. Current tax rules allow for the forgiveness of accumulated capital gains tax liability at any owner’s death. So Grandpa can leave $10 Exxon shares to Junior with his $1 cost and $9 forgiven tax liability. And Junior can repeat that process when Exxon is $79 and he has a $10 cost basis. Clearly a powerful compounder.


The problem arises when there is a fundamental shift that would warrant selling shares, but everybody replays Grandpa’s imploring to “Never sell the Exxon.” Even in the absence of such a plea, investors can also “anchor” to a better point in time for the company and lose sight of what else they could have owned. That manifests an investor replaying in his mind how great it felt to see Exxon at $105 in July, 2014. Even just comparing to the S&P500 broad market, Exxon has seriously underperformed for the past three years; trading at $79 today. That’s a decline of 25%, while the S&P500 has jumped 27% during the same time. Most investors would rather not know they would have been 52% better off by swapping.

Knowing that today, paying the capital gains tax would have been a better idea. But we don’t know the future, do we? More importantly, could we have recognized anchoring, in which we long for the days of $105 so we can sell shares this next time around? Do we avoid comparing to what could have been so we can feel better about our indecision? And don’t investors tend to find more comfort in what they did not do, rather than what they did do? Actions are accountable on a statement and inaction is not. No judgement here, since I stand convicted too.

Clearly my point is not to pick on Exxon; it’s a great company to be overly enthusiastic about. My point is to highlight the need to be self-aware and market-aware to guard against self-gratifying behavior.

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