It seems we that we all fall back on biases and simple rules of thumb when it comes to decision making and that these mental shortcuts are pretty universal and therefore predictable.
Bit of a blow to the ego? Don’t worry, there is a bias for that; overconfidence in our own abilities is a well-studied phenomenon that, while not always helpful when making big decisions, gives us a rosy view of our world and helps us to recover quickly from disappointments.
Test your own decision-making process with this quick question:
When would you sell?
A) Your $1,000 investment is now worth $1,500.
B) Your $1,000 investment is now worth $500.
The loss aversion tenet of behavioural finance would predict that the majority of people will pick A, choosing to lock-in their gain as opposed to crystallizing a loss by selecting B. We hate losses. We really want to hang on to that losing investment until it at least comes back to break even. At the very least we want to delay having to take the loss.
Rationally we understand that selling winners and holding losers is probably not an investment strategy that will serve us well long-term but it is exactly what our unconscious biases would have us do if we rely on them to make important investment decisions.
It's interesting gaining insight into these quirks that make us human and it also really highlights the importance of having a disciplined approach to investing in order to stay on track for our long-term goals.
Behavioural finance is a fascinating topic; if you are interested in a couple of interesting pieces that go into further detail, click here and here. If you are interested in talking about investment strategy not based on unconscious basis please reach out to me directly here.