Jeff, Matt & Gary · Summit Financial Advisors

Inside the Investor Mind:

Bias, Belief, & a Better Way to Make Financial Decisions

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We are emotional creatures.

Everything we experience shapes our beliefs, behaviors––our reality.

But if personal bias is how we favor or judge decisions, then those judgements can be exploited if incorrect.

And during your next financial decision, they could unknowingly affect even the tiniest details.

Though personal bias is natural, developing an awareness of these complex thought patterns is an excellent way to foster a more comprehensive view of our finances.

The 5 biases listed below are some of the most common among us today, and offer amazing insight into the psychology of investment behavior.

What exactly derails us? How can we avoid it?

Here’s the truth…

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5 Behavioral Biases That Can Misguide Our Money Moves

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Behavioral Bias #1: Loss Aversion

Feeling the sting of a loss twice as intensely as the thrill of a win––that’s loss aversion at play. (And isn't it just like us to focus on the negative?) Though this behavior is one of the many ways our brain works to protect us, it can ultimately cause a habitual avoidance of risk and/or change.

Example: Refusing to sell and take a short-term loss, even though the market indicates there may be a better option available for a long-term win.

Red Flag: “I’ll hold for now.”

If you’re rationalizing a decision to grasp onto a losing investment, you could be in the midst of a loss aversion bias.1

Behavioral Bias #2: Confirmation Bias

Confirmation bias happens when we fail to question ourselves to avoid being challenged. Knowing we’re wrong is uncomfortable (and for some, unimaginable), so we seek familiar information that affirms what we already believe. Unfortunately, avoiding an exploration of opposing viewpoints––to remain in our cocoon of perceived safety––could keep us financially stagnant and out of touch.

Example: When creating a personal monthly budget, you find it absolutely necessary to keep your current vehicle instead of researching other options that may be more affordable. You will only drive a (enter car brand here), because everyone in your family owns the same brand. It’s the best––always has been, always will be.

Red Flag: “I know I’m right because…”

That type of affirmative thinking causes you to double down on the confirmation bias. It has you justifying your choices, instead of genuinely questioning them for a more balanced view.2

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People are walking, and there is a violet circle in the center.

Behavioral Bias #3: Herd Mentality

The herd mentality can push us to follow the pack and do what everyone else is doing. Instinctively, we can assume the herd “knows best,” so we jump on the bandwagon without thinking twice.3

Example: Several of your industry acquaintances invested in a popular startup, so you rush to back it before researching their business model.

Red Flag: “If I don’t act now, I’ll miss my chance.”

That fear-of-missing-out (FOMO) thinking can highlight the fear-driven quality of herd mentality. This fear can cause impulsive and anxious thoughts to “act now,” to make sure we stay relevant, aren’t left behind, and receive our slice of the pie.

Behavioral Bias #4: Overconfidence

Having confidence in our own knowledge and abilities in the financial world and beyond is fantastic. Don’t change a thing. You’ve earned it. The slippery slope of OVERconfidence occurs when self-assurance shapeshifts into a lack of respect for what we “may not know,” causing a misguided boldness and hastiness in our decisions.

Example: You underestimate what it’ll take to hit certain financial goals because of your successful track record and market savviness. You expect favorable outcomes without weighing all (new) possibilities and facts.

Red Flag: “I’ve done this before…”

Financial decision-making experience, though important, can give us a false sense of control, thus a vulnerability to potential risks.4

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Woman doing yoga post

Behavioral Bias #5: Anchoring

The anchoring bias can cause us to put more weight or value into the first set of information we come across when we’re making a decision. We “anchor” to that first piece of info, using it to evaluate current or future circumstances.5

Example: A stock priced at $1,000/share last week is now priced at $300/share, making it seem cheaper or more affordable. If, however, you just priced the stock today and saw it at $300/share (without anchoring to that initial $1,000 price), it wouldn’t necessarily be “cheap” or “affordable.”5

Red Flag: “It could be worse, so I should…”

That type of anchoring means we rely on a single set of data points (past or current) as a predictor of future results, leading us to overlook important evidence or trends that should also be considered.5

“Logic can fly out the window when our biases and feelings replace the facts.”

FINANCIAL LESSON:

How to Outsmart Any Bias to Experience Better $ Results

Have you experienced any of these biases firsthand?

Did any surprise you?

Whether or not these biases feel familiar, the truth is we aren’t perfect and we don’t make perfect choices.

Logic can fly out the window when our biases and feelings replace the facts.

Which can have us relying on faulty reasoning, muddled memories, or flawed intuition to make major financial decisions.6

So consider this: Instead of giving in––we adapt. And we can start simple, by recognizing our biases and being more aware of how our emotions play into our financial choices.

From there, we create a better framework for considering money moves.

And give ourselves a “process” that takes emotions out of the equation.

We can also beef up our financial knowledge, making it easier to screen our biases.

Routinely check in with people we trust for a fresh perspective, a helpful sounding board, and a key checkpoint before making bigger financial moves.

These steps can help keep our eyes on the big picture, so we’re making prudent choices to support our long-term goals.

Sincerely,

 

    Jeff, Matt & Gary

    Summit Financial Advisors

    https://www.summitadvisorsmn.com/

    (651) 583-7290

 

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Jeff, Matt & Gary

Summit Financial Advisors

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Jeff, Matt & Gary

Summit Financial Advisors

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https://www.summitadvisorsmn.com/

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info@summitadvisorsmn.com

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(651) 583-7290

Risk Disclosure: Investing involves risk including the potential loss of principal. No investment strategy can guarantee a profit or protect against loss in periods of declining values. Past performance does not guarantee future results.

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