Here we are back once again poking fun at that powerful yet delicate, and sometimes malfunctioning, piece of anatomy called the human brain.
As we learned last time, investor biases fall into 2 categories; Cognitive Biases and Emotional Biases. Some call them “heuristics” – or simple rules of thumb, beliefs or judgement calls. But they are much more than that.
Why do I spend so much time on this topic? Because – it is important for a financial advisor to recognize investor biases to be able to give the best financial advice and guidance. In reality, often times this skill helps us to protect investors from themselves.
For today’s dining and dancing pleasure may I present…
This is the “That’s not really so bad ” mental justification – often occurs when a favoured stock or fund drops 50% and the investor still loves it.
- Defined as, “a state of mental imbalance that occurs when contradictory cognitions bump into one another. It becomes psychologically uncomfortable”.
- AKA, what happens when glaring reality meets steadfast perception?
- Investors are motivated to try to reduce this “dissonance” through rationalizing it away, that is – why it is, or is not, fine.
- People will go to great lengths to convince themselves they made the right decision. (some of it is ludicrous – I am going to write a book on that someday – it will be a black comedy).
“The Status Quo”
Ever heard of the “paralysis of analysis”? Yep – this falls into the Status Quo emotional bias.
- Defined as, “a predisposition of people, when faced with a wide variety of choices, to choose to keep things the same.”
- Easy to fall into because it is easy to do nothing and/or avoid taking responsibility – and it drives your advisor crazy!
- This bias can cause investors to hold investments with which they are emotionally fond or comfortable – for no other quantifiable reason.
- Unfortunately, investors end up sabotaging their own progress toward achieving their financial goals with this bias.
Still having fun? I love this stuff. Till next time …