Understanding the powerful forces created by momentum may help you make buying and selling decisions.
In the long term, investment markets are usually driven by sound economic fundamentals such as yields and valuations.
However, in the short term, markets swing erratically between being undervalued and overvalued because of human emotions and sentiment. Some call these human emotions greed and fear.
In times when we are fearful, investment markets are often over sold so that their price becomes relatively cheap.
In times when we are greedy, markets may be over bought and prices become too expensive.
If you are able to recognize those times when short term thinking has changed asset prices away from sound economic valuations, you may be able to use the momentum of the market to your advantage.
For example, in scary times when markets are temporarily oversold, you could patiently buy investments that have become cheap in price. Then, when the mood swings again (and it always does), and the momentum of the market sees prices go from undervalued to overvalued, sell at a profit. Or you could choose never to sell, but simply to only buy when prices are cheap, knowing that in the long term prices will rise in line with yields.
Basically, this describes buying low and selling high. Investing against the momentum. Sound simple? Yes. Do most people do this? No.
Why? Because many people don’t set themselves a strategy to take advantage of short term mispricing of assets, and then get caught up in the overwhelming fear or over optimism that we humans put ourselves through regularly and end up buying high (for fear of missing out), and selling low (to limit further losses).
Have you a strategy when it comes to your financial well-being?