3 Cognitive biases investors should be aware of 

3 Cognitive biases investors should be aware of 

Investor decisions can be influenced by several biases, especially in downturns and speculative markets. 

It may sound a bit of an exaggeration, but when it comes to investment decisions, it’s generally a good tactic to be as unemotional as possible. All too often, investors catch themselves being swayed by short-term representations in the media or the opinions of others. 

All investors should be aware of these three biases. 

1. Confirmation bias 

Perhaps the bias we all struggle with most in our daily lives is confirmation bias. This is the purposeful search for information that is favorable to one’s own opinion or situation. For example, if you own Ford stock, you may be looking for “Why is Ford a good investment?” to solidify your position, rather than “Why is Ford not a good investment?” to reevaluate it. 

This brings me back to my call to be unemotional when making investment decisions. It is most dangerous — when the collective hive can overwhelm realistic thinking and analysis, as can be the case in non-objective stock discussion forums. Cult stocks like Palantir and Tesla have emerged and are subject to this characteristic, and it causes investors to fail to recognize the larger landscape and visible risks that may be associated with the company. 

2. Information bias 

The media often pushes a short-term narrative on us. Access to news every minute has only increased the likelihood of information bias. In certain circumstances, irrelevant news stories appear that are designed to elicit an emotional response from us as readers, listeners, and viewers. But in reality, this news is usually not heeded for more than a few days, weeks or months before the market turns to the next big thing. 

It’s much more useful for investors to retain key information about the companies they have invested in, and to monitor any major impacts that might affect the long-term thesis of an investment. And not much more, to be honest! Avoid being influenced by price fluctuations if it does not affect the performance of your investments and verify all sources from which you get the information. Multiple sources with different viewpoints are always the best way to get an unbiased summary of the event at hand. 

3. Anchoring Bias 

Under current circumstances, anchoring bias is perhaps the most relevant of all in this list. This usually affects investors when they justify an opportunity, even if circumstances have changed. For example, the speculative boom in 2021 led to reckless, unearned valuations in which years of unproven growth were factored into the valuations of many companies. The ‘buy the dip” mentality has captivated market participants in recent years, and in some cases, not in a good way. 

Given the ups and downs of many stocks, especially growth stocks, investors tend to assume that all stocks will eventually return to their historical highs. Many of the companies that have gained momentum in recent years still have no revenue to show for it, no viable long-term business model, no competitive advantage, and a large debt pile. 

We all know the deal when we sign up — “past performance is no indicator of future success” Therefore, it is our job as investors to make informed, calculated decisions that maximize the likelihood of a successful outcome and hopefully above average returns. 

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