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These biases can cause us to make poor investment decisions



Tim Richards, writer of The Psy-Fi Blog, explains how biases can impact an investors decision making abilities

There’s a whole range of biases that human beings are prone to, that can cause us to make poor investment decisions. One of the most common is called availability bias — it’s a sort of mental shortcut which means we give more prominence than we should to the first thing that comes to mind, a recent event, for example.

Tim Richards: Availability, as its name suggests, is about how readily we can bring something to mind. It’s a kind of memory bias effectively. So anything that can cause us to more readily recall something is more likely to bias us in terms of making a decision. So recency is one, primacy is another, so the first thing that happens in a sequence. Quite often if you give people a list of things to read and to memorise, without telling them to memorise them, and then ask them to recall them, they’ll remember the first and last. Primacy and recency. Salience is perhaps the biggest one. So salience is when something absolutely dramatic happens and it really sticks in the mind. And sometimes these things are multi-generational, so, for instance, the Wall Street Crash. Every time we have a market downturn, the papers are full of how it’s the next Wall Street Crash. It never is, but it really does live in the memory.

RP: Availability bias doesn’t just harm our investments. In extreme cases, it can even cost us our lives.

TR: One of the saddest ones I ever heard of was in the wake of 9/11. All those people died, but another fifteen hundred people died in the wake of 9/11 because instead of flying they got in their cars. There's a guy called Gerd Gigerenzer who did this research. And what he’s shown is that there were over the next two years fifteen hundred fatalities on the roads around New York.

RP: So, don’t underestimate the impact these sorts of biases have. And don’t assume that you yourself are immune to them.

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