Since starting work in the investment industry in 2004, I have managed to accumulate a selection of pensions by virtue of having several different employers. Maintaining these was becoming increasingly cumbersome and inefficient, so I decided to consolidate them into a single account. As I probably have more than 20 years until retirement my pensions are close to 100% invested in equities; however, the process of moving them into a single scheme will mean that everything is sold. My pension will become 100% cash. I know the rational decision is to immediately reinvest the money back into equities, returning my pension to its former state, but I don’t want to do that – why?

Having studied and written about behaviour for many years, I feel reasonably well-versed in the dangers and pitfalls that lead to poor and costly decisions. The problem is that this doesn’t make me immune to them.

My reticence to immediately reinvest my pension into equities stems from my concern about the current environment; I can foresee a scenario where central banks hike rates into a recession with negative ramifications for equity markets. There could be a much better time for me to put the cash back to work.

There are, however, some very important caveats to this view:

1. I have no skill whatsoever in predicting short-term economic and market developments, in fact I do not believe that anyone does. The value of my views or feelings about the near-term prospects for markets is close to zero.
   
   
2. Everyone is bearish. Many indicators of investor pessimism are at maximum readings. Whenever all investors agree about the future we can guarantee one thing – something else is going to happen.
   
   
3. There are always reasons to be worried. There are very few occasions where it doesn’t feel like an uncomfortable time to invest; indeed, we should be more worried when we feel sanguine.
   
   
4. The only reason I am holding cash is because of an administration decision I have made; it has nothing to do with investment. If I had not attempted to streamline my pensions, I would not even be in this situation.
   

The behavioural predicament I find myself in is one of regret aversion. What if I invest the cash and equities fall another 30%? I will feel awful. I ‘knew’ this was going to happen and I didn’t do anything about it! Regret or the prospect of it is a very powerful influence on decision making.

So, what are the options?

I could hold cash until I identify a more opportune time to invest. This is an unequivocally terrible idea, which will likely have dire consequences and provoke the opposite type of regret.

The alternative is to gradually invest the cash into its desired end state – pound or dollar cost averaging. This will smooth out my entry price and ensure I mitigate the risk of investing at a single, untimely moment. It is also a sub-optimal approach.*

If I have a long-time horizon and a lump sum, investing it immediately into equity markets is the rational choice. Equity markets rise more often than they fall, and, therefore, making phased purchases is likely to reduce returns.

The advantage of pound / dollar cost averaging is that it is a regret minimisation strategy. If markets rise during the period of investment at least I have started to invest the cash and, if they fall, I can be glad that I didn’t go all in. Despite its limitations it is also a significantly better option than trying to guess the right time to invest, which is a fool’s errand.

I know that I cannot predict or time financial markets, and I am aware of what the rational, optimal course of action is. Yet it feels like the wrong thing to do. If I were to take the averaging in option, I would be paying a financial cost simply to limit the feeling of regret. Wilfully opting to pay a behavioural tax.

Humans are just not designed to make sensible investment decisions.   

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* The pound / dollar cost averaging described here is very different to the eminently sensible process of making regular investments into our pensions or savings account from our salary. These are actually small, incremental lump sum investments based on the cash we have available each period.  

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I have a book coming out! The Intelligent Fund Investor explores the beliefs and behaviours that lead investors astray, and shows how we can make better decisions. You can find out more here.