It can remember the past, plan for the future, and experience the present in ways that bring joy and meaning to our lives. But the human brain also has its limitations. Sometimes we simply do not think very well.
Brain scientists tell us that stress can either help us or impair us, depending on the magnitude of the stress we face and how we choose to respond to it. Under some conditions, moderate stress can actually improve brain function by building stronger connections between neurons in the brain. These stronger connections can help us process ideas faster and remember better. However, our brain health suffers if we are constantly stressed out. Not only does overwhelming stress elicit negative emotional reactions, but it can actually destroy brain cells, impair memory, and change the physical structure of the brain.
By now you may be wondering why a financial planner is writing about the human brain. It is simply this: the quality of your thinking determines the level of success you achieve in life. Unless you train your brain, all the other planning you do will never be enough to give you the satisfaction and peace that are hallmarks of true success.
When I talk about training your brain, I mean learning to overcome what psychologists call “cognitive distortions.” If you have ever tried to look through a pane of thick wavy glass, you know how the glass distorts your vision. In like manner, cognitive distortions warp the way we perceive the world. When we act on these distorted perceptions, we make poor decisions and undermine our own happiness. Fortunately, cognitive distortions can be corrected.
A common cognitive distortion is known as “catastrophizing.” We have all known people who see disaster looming around every corner. They exaggerate bad news and carry it to its logical—often catastrophic—extreme. Bear markets, like the one we are now entering, often lead to catastrophic thinking. If you find yourself catastrophizing about your investments, try to remind yourself that there have been many bear markets in the past and the market always recovers. If your portfolio is well-designed, it will weather the bear market and return with a vengeance once the inevitable bull market returns.
Another common cognitive distortion is called “filtering.” When we filter, we magnify the importance of negative information while ignoring or minimizing the positive information that is available. Financial pundits are world champs at filtering. For example, when the COVID lockdowns hit in 2020, the US equity market dropped over 30 percent in a matter of weeks. Many financial pundits were so convinced the world was ending, they failed to see the impact of the massive stimulus that was coming from the Fed and Congress. The pundits missed out on a massive rally that more than offset any losses they experienced in the COVID meltdown.
As the bear market proceeds, we should expect to hear more doom and gloom from the media. Market pundits make a lot of money by exaggerating the negative, so you can’t expect them to be a balanced source of market information. If we want to avoid being infected by their poor thinking, our best bet is to simply tune them out. In any case, as you consider the markets, remind yourself that there is always more than one side to every story. If you don’t see the positive, recognize the possibility that maybe you haven’t looked hard enough.
Cognitive distortions are like weeds in our thinking—they just seem to sprout up on their own. Unless we actively work at it, these weeds can overcome our mental gardens. A good way to discourage the weeds is to intentionally cultivate our mental gardens with healthy habits and correct principles. Instead of stewing over the bear market, take time to ensure that your portfolios are invested in a well-diversified portfolio of high-quality stocks and bonds. Look at your portfolio structure to make sure it fits your financial plan. Develop your personal investment policy. These constructive actions will help you stay focused on things you can control and will help you get your mind off things you cannot control.
Steven C. Merrell MBA, CFP®, AIF® is a Partner at Monterey Private Wealth, Inc., a Wealth Management Firm in Monterey. He welcomes questions that you may have about investments, taxes, retirement, or estate planning. Send your questions to: Steve Merrell, 2340 Garden Road Suite 202, Monterey, CA 93940 or email them to smerrell@montereypw.com.