Behavioral pitfalls

Loss aversion
The tendency to instead inaccurately weigh risk/reward in favor of less risk over more risk. See also "Prospect Theory."

Mental accounting
Mental accounting refers to behaviors relating to how an individual frames decisions regarding the receipt and dispersing of money.

For example, if an investor gets a tax return from the IRS, he might spend it as if it were some found money even though the amount was an interest-free loan to the IRS.

As another example, an investor who inherits individual stocks from a close relative may have emotional attachment to those stocks even though he may be able to improve the risk adjusted return of his portfolio by selling the stocks and diversifying the proceeds.

Overconfidence
Usually, the common tendency to attribute investment success to individual performance rather than market performance.

Paralysis by analysis
Paralysis by analysis refers to a behavior that an investor doesn't do anything because he is overwhelmed with information.

For example, an investor may wonder whether he should go with Traditional IRA or Roth IRA. He might wonder forever and eventually end up not contributing at all to either account.

Confirmation bias
Confirmation bias in investing is the tendency to look for evidence that justifies the purchase or sell decision by the investor after-the-fact. Only information supporting the investor decision is accepted and evidence to the contrary is ignored or minimized.

Prospect Theory
The investor tendency to consider potential gains more heavily than potential losses - the tendency to inaccurately weigh potential risk versus expected reward. For example, if two investments are presented, one with a 10% expected return and another with a 5% expected return, the investor tends to select the first investment over the second, even when relative risk versus expected return may favor the 5% choice. The tendency to instead inaccurately weigh in favor of less risk is known as "loss aversion."

Gambler's Fallacy
The tendency to believe the odds of an event change based on prior outcomes. For example, if you flip a coin five times and it comes up heads, it is the tendency to believe there is a greater than 50/50 chance the next flip will be tails, even though the odds are still 50/50. For investing, the stock market increases for five months in a row and the investor believes there is a greater chance the market will decline in the sixth month based upon the results of the previous five.