ramit's kb

Behavioural Finance in India: Common Investor Mistakes

Why Smart People Make Dumb Money Decisions #

Ravi is a software engineer earning ₹18 lakhs a year. He cracked JEE, survived a competitive workplace, and can explain the difference between microservices and monoliths. Yet last year, he lost ₹4 lakhs trading stock options on his phone during lunch breaks.

He's not alone.

In FY25, individual F&O traders in India lost ₹1.06 lakh crore—a 41% increase from the previous year. 91% of individual traders lost money. Only the top 1% earned more than ₹1 lakh profit after costs.

These aren't foolish people. They're doctors, engineers, teachers, and business owners. They're intelligent, educated, and capable. So why do they keep making the same costly mistakes?

The answer lies in behavioural finance—the study of how psychology affects financial decisions. Traditional economics assumes humans are rational actors who make optimal choices given available information. Reality tells a different story.

Nobel laureate Daniel Kahneman distinguished between two thinking systems:

Most investment mistakes happen when System 1 hijacks the controls. And in India's fast-growing markets, the triggers for these cognitive biases are everywhere—flashing tickers, WhatsApp forwards, and Instagram influencers promising quick wealth.

Let's examine three traps that have cost Indian investors dearly, and the data-driven strategies to escape them.

Trap #1: F&O Addiction—The Casino in Your Trading App #

The Numbers Don't Lie #

The Securities and Exchange Board of India (SEBI) released damning statistics in 2025:

That last statistic tells an interesting story. The smallest traders—those who could least afford losses—have been fleeing the market. They learned an expensive lesson.

Why Smart People Get Hooked #

Futures and Options trading activates the same neural pathways as gambling. Each trade delivers a dopamine hit. Wins feel like validation of skill; losses feel like near-misses that "could have gone the other way."

The illusion of control is particularly seductive. When you watch charts, analyse patterns, and time your entries, it feels like work. It feels like skill. But the data shows otherwise—if 91% of traders lose, you're not playing a skill game. You're paying for entertainment.

Then there's loss aversion. Studies show people feel losses about twice as intensely as equivalent gains. When a trade goes wrong, the instinct isn't to accept the loss—it's to double down, average out, or roll over positions. This turns small losses into catastrophic ones.

The Counter-Strategy: Replace Speculation with Systematic Equity #

If you're drawn to F&O, redirect that energy:

  1. Track every trade for 3 months before your next one. Note your emotional state, reasoning, and outcome. Most traders quit after seeing their own data.

  2. Set a "speculation budget"—maximum 5% of your portfolio. If you lose it, you're done for the year. No exceptions.

  3. Replace the dopamine: Index funds offer lower thrills but higher odds. NIFTY 50 has delivered approximately 11-12% CAGR historically. Boring beats broke.

  4. Understand edge: Professional options traders have better data, faster execution, lower costs, and sophisticated models. You're competing against algorithms and institutions. The house always wins.

Trap #2: IPO FOMO—Buying the Hype #

The IPO Rollercoaster #

Remember the IPO frenzy of 2021-2022? Every WhatsApp group had "insider tips" about the next multibagger IPO. Friends asked friends for demat account referrals. Newspapers ran headlines about "historic" subscriptions.

Let's look at what actually happened with some marquee names:

Zomato (July 2021)

Paytm (November 2021)

Nykaa (November 2021)

One success, two disasters. And these were the "hot" IPOs with strong brand recognition and massive retail interest.

The Bigger Picture #

The data across all IPOs tells a sobering story:

Yet IPOs continue to attract frenzied retail participation. Why?

The Psychology of IPO FOMO #

Fear of Missing Out (FOMO) is a powerful motivator. When everyone around you is talking about an IPO, when newspapers run front-page stories, when your colleague shows you their "listing gains"—the pressure to participate becomes overwhelming.

There's also the availability heuristic: we remember Zomato's success more vividly than Paytm's failure. The success stories are celebrated publicly; the losses suffered privately.

Anchoring plays a role too. The issue price becomes a psychological anchor. If an IPO lists below issue price, investors hold on because "it should be worth more." They ignore fundamentals.

The Counter-Strategy: Apply the 30-Day Rule #

  1. Wait 30 days after listing. Let the initial volatility settle. If the company is truly great, it'll still be a good investment in a month.

  2. Read the DRHP thoroughly. Don't rely on news articles. Look at the prospectus. Why are existing investors selling? How will the company use the proceeds?

  3. Value like a private investor: If this company weren't going public, would you invest at this valuation? If not, why does an IPO change your calculus?

  4. Check the lock-in period: When can insiders sell? A flood of insider selling often follows lock-in expiry.

  5. Remember: IPOs are priced to maximise proceeds for selling shareholders. The investment bank's job is to extract maximum value from buyers—not to give you a bargain.

Trap #3: Small-Cap Chasing—The Lottery Ticket Mentality #

The Seduction of Small-Caps #

Small-cap stocks are intoxicating. The potential for multibagger returns. The stories of investors who bought "the next HDFC Bank" early. The thrill of discovering a hidden gem.

The numbers support the thesis—partially:

NIFTY SmallCap 250 Performance:

But these aggregate numbers hide a crucial truth: the small-cap index survivors are, by definition, the ones that didn't go bust. Many small-cap stocks deliver negative returns. Some go to zero.

The Survivorship Bias Trap #

Survivorship bias tricks us into seeing only winners. When you read about an investor who made 10x on a small-cap, you don't hear about the nine others who lost their capital on similar bets.

Small-caps also suffer from liquidity risk. When markets turn, you might not be able to sell at any price. What goes up 50% in a bull market can fall 70% in a correction.

The lottery ticket mentality treats each small-cap purchase as a low-cost, high-reward bet. But unlike actual lotteries, you can lose more than your ticket price. Leverage, averaging down, and emotional attachment turn small positions into large losses.

The Counter-Strategy: Rules for Small-Cap Exposure #

  1. Cap your allocation: Maximum 10-15% of your equity portfolio in small-caps. This isn't being conservative—it's being realistic about volatility.

  2. Use SIPs, not lump sums: Systematic Investment Plans average out your entry price across market cycles. This reduces timing risk.

  3. Prefer funds over direct stocks: Small-cap mutual funds offer diversification and professional management. They're not perfect, but they protect you from company-specific disasters.

  4. Set stop-losses and honour them: If a thesis breaks, exit. Hope isn't a strategy.

  5. Due diligence is non-negotiable: For direct stocks, read annual reports, check promoter shareholding patterns, understand the competitive landscape. If you don't have time for this, you don't have time for small-caps.

A Data-Driven Framework to Counter Biases #

Understanding biases intellectually doesn't immunise you against them. You need systems. Here's a practical framework:

1. The Investment Policy Statement #

Write down your rules before you need them:

When emotions flare, refer to the document. You wrote it when you were thinking clearly.

2. The Cooling-Off Period #

Before any significant investment decision, wait 48 hours. This forces System 2 to engage. Most "urgent" opportunities turn out to be less compelling after reflection.

3. The Pre-Mortem #

Before investing, imagine it's a year later and the investment has lost 50%. Write down what went wrong. This exercise surfaces risks you'd otherwise ignore.

4. The Decision Journal #

Document every investment decision:

Review quarterly. Patterns will emerge.

5. Accountability Partner #

Find someone who'll challenge your decisions. Not an enabler who says "go for it"—a sceptic who asks uncomfortable questions.

6. Automation #

The best way to avoid behavioural traps is to remove choice. Automate your SIPs. Automate your rebalancing. Let algorithms handle what humans do poorly.

From Biased Investor to Disciplined Wealth Builder #

India now has 21.59 crore demat accounts (December 2025). Financial participation is growing at unprecedented rates. This is excellent—it means more Indians are building wealth through markets.

But participation without education leads to pain. The ₹1.06 lakh crore lost in F&O, the investors who bought Paytm at ₹2,150, the small-cap chasers trapped in illiquid positions—these are preventable tragedies.

The path forward isn't about eliminating emotions. That's impossible. It's about building systems that account for our psychology.

Start here:

  1. Audit your portfolio. Identify positions driven by FOMO, tips, or "intuition." Question them.

  2. Calculate your real returns. Include transaction costs, taxes, and inflation. The number might surprise you.

  3. Write your investment policy. Even if it's one page.

  4. Commit to learning. Read "Thinking, Fast and Slow" by Daniel Kahneman. Read "The Psychology of Money" by Morgan Housel. Understand your own mind.

  5. Embrace boring. The most successful investors aren't the ones with the most exciting stories. They're the ones who showed up consistently, avoided catastrophic mistakes, and let compounding do its work.

The markets will always be here. New IPOs will launch. Small-caps will surge. Options will tempt. But your wealth isn't built in the noise—it's built in the discipline to ignore it.

Smart people make dumb money decisions. But smart people can also make smarter ones. The choice is yours.

Have you fallen into any of these traps? What strategies have helped you stay disciplined? I'd love to hear your experiences.