In the United States, stocks remain the most popular risky asset class because they have the potential for a big payoff. However, because big rewards come with big risks, investing in stocks generates a great deal of anxiety. This means that people may face some serious adverse effects to their mental health when they decide to enter the stock market. In fact, a study conducted at the University of California, San Diego, found an inverse correlation between stock returns and hospital admissions for psychological conditions, including panic disorders, anxiety, and major depression. In other words, as the market falls, hospital admissions rise.
The anxiety associated with investing in stocks can be especially pronounced among casual investors, who often depend upon the market to fund their retirement. Still, investing in stocks does not have to be a scary process. Individual investors can reduce their risk and limit their anxiety by taking the following steps:
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Learn more about how the market works.
A study conducted by researchers at Hiroshima University and Nagoya University found that individuals who know more about financial markets, including the stock market, have a reduced risk of anxiety. Because people are fearful of the things that they do not understand, someone who invests in the stock market without knowing much about how the market works will naturally experience some anxiety about the decision, even if it is guided by an investment professional. For this reason, people need to invest some time in learning about the stock market and its general function and performance. This information can provide some peace of mind or at least help individuals more fully comprehend the ramifications of purchasing a stock. When people understand the market, they will make better investment decisions.
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Maintain an appropriately sized position.
Many novice investors believe that they have to be very aggressive in the stock market to realize any significant gains. Small positions, many people think, only have the potential to earn small profits. This assumption can quickly lead to trouble because, in reality, profitability depends upon preserving one’s capital, not risking it with a big, anxiety-inducing deal. However, by not purchasing more than they are willing to lose, individuals can mitigate the anxiety that often accompanies investing in stocks.
Investors need to think constantly about potential losses and the risks involved with a purchase. This line of thought leads to smaller positions to protect against potential losses. A smaller position means accepting on the degree of risk that one is comfortable with, which safeguards against the constant anxiety of accepting too much risk. In short, investors should always prioritize caution, rather than aggression, when making trades.
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Align goals with market selection and time frame.
People can experience a lot of anxiety when their goals do not align with the choices that they make. Before investing in any stock, individuals need to think about the time frame that they want to work in because long-term investments look different from short-term ones. They also need to consider which markets carry greater risk or are unfamiliar to them, because it is also imperative to invest in areas in which one feels comfortable.
Some investors try to manage short-term stock trades while still maintaining a day job, but this often leads to missed opportunities, which can cause a lot of stress. Therefore, individual investors should have a long-term mindset when investing in stocks. Other investors may purchase in a particular market because it seems to be doing well. However, because they are not familiar with this market, they can miss important information that might cause the market to fall. Familiarity with a market quells anxiety.
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Hedge against losses to provide greater protection.
When individuals protect their positions, they can rest assured, knowing that market turns in either direction will not greatly affect them. One of the strategies for hedging against loss involves setting a stop-loss order on every stock an investor purchases. For example, someone who buys a stock for $60 per share might set a stop-loss order at $50 so that the stock automatically sells whenever the stock price hits that threshold. The maximum amount that the investor could lose in this case is $10 per share. Investors who are even more risk-adverse might set the stop-loss order at $55. This strategy limits that amount of money that one can lose with any investment, which can help people feel much more secure in their positions.
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Use a trading system that inspires confidence.
Most independent investors lack a specific trading system, or they rely on the advice of an investment advisor. These approaches can lead to anxiety because they are not systematic. In the case of investment advisors, individuals should do some research on the systems that these professionals use and make sure that they feel comfortable with them. When investing without help from a third party, people should take the time to learn about the different systems available and choose one that makes sense to them. Not all published trading systems are effective, but some are very solid. Each person should perform the research necessary to figure out how and why a particular system works. Doing so can not only alleviate a lot of anxiety, but it can also boost one’s confidence.