Overconfidence could rock your boat at 10k mark

by Parag Parikh/ET

The market is inching towards the 10000-mark. For a wise investor, the figure has no significance. Everyone is bullish on the market as everyday one sees net worth of one’s equity appreciating with the surge in stock prices. Those who have made money in too short a period earlier could now be bitten by the overconfidence bug. Overconfidence is a behavioral anomaly which makes people think they are smarter than they actually are.

This leads to arrogance and people under-react to any new information that they get. The steel sector can be considered one good example. Tata Steel and SAIL came out with disappointing results but their prices soared. A slowdown in the sector is evident but people are so overconfident of the stock market rally that they are under-reacting to the stark realities. As far as our economy is concerned, there is abundant liquidity and soaring asset prices but inflation remains low. Similarly, there is a strong global growth despite higher oil prices.

There are certain things which are happening for which we have no answers. The only inference I can gather is that we are in an irrational phase. How long this will go on, is anyone’s guess. A good example of such overconfidence is the recent advertisement from a mutual fund inviting people to invest in the fund so that they can buy their personal jet. Then you also come across the advertisements with visual displays of money growing on trees. They all talk about building wealth. I hope wealth building was so easy and simple that someone could just do it for you without understanding your current lifestyle. Let’s understand the definition of wealth: Wealth is the number of years one can maintain one’s current lifestyle if one stops earning.
In some way, these advertisements mislead you in to believing that they have the abilities to make money for you. But the reality is that austerity is real wealth. One is not wealthy in the things one has but in the things one can do without. Thus, wealth creation depends upon you and the discipline you maintain to curtail your urges. Consider how the current environment is enticing you to indulge in your urges and do things, which are against your long-term financial interest. Advertisements urge you to take loans from banks and improve your lifestyle. They are there to fulfill all your borrowing needs. Credit cards, car loans, house loans, personal loans —the list is endless.

You believe that the bank fulfills all your needs, but in reality it is helping you to get in to debt. The deeper you are in debt, the better are the bank’s earnings and profits because of the high interest you pay. When the going is good, confidence level surges and it is at this stage that one needs to realise what overconfidence can do.

Nothing is permanent. Booms are followed by bust and booms follow busts. Super profits are not sustainable over long periods of time. Over time everything converges to the mean. Look at sustainable and reasonable income streams.
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