This week we are going to examine what is known as Availability Bias.
An article in Business Insider reminds us that “Anyone who took an introductory psychology class probably remembers the classic study in which different people witnessing the same crime each report a different take on what happened. Though each presumably sane, sober person witnessed the events with his or her own two eyes, individual expectations and biases influenced how they perceived what happened. Sure, you say, but what does this have to do with investing? Well, it turns out that our individual expectations and biases influence how we view investments, too. Our thinking is often strongly influenced by what is personally most relevant, recent or dramatic.”
So how does availability bias effect investors?
According to Michael M. Pompian, author of Behavioral Finance and Wealth Management, investors exhibiting this bias can make the following four mistakes:
- Retrievability. Investors will choose investments based on information that is available to them (advertising, suggestions from advisors, friends, etc.) and will not engage in disciplined research or due diligence to verify that the investment selected is a good one.
- Categorization. Investors will choose investments based on categorical lists that they have available in their memory. In their minds, other categories will not be easily recalled and, thus, will be ignored. For example, U.S. investors may ignore countries where potentially rewarding investment opportunities may exist because these countries may not be an easily recalled category in their memory.
- Narrow range of experience. Investors will choose investments that fit their narrow range of life experiences, such as the industry they work in, the region they live in, and the people they associate with. For example, investors who work in the technology industry may believe that only technology investments will be profitable.
- Resonance. Investors will choose investments that resonate with their own personality or that have characteristics that investors can relate to their own behavior. Taking the opposite view, investors ignore potentially good investments because they can’t relate to or do not come in contact with characteristics of those investments. For example, thrifty people may not relate to expensive stocks (high price/earnings multiples) and potentially miss out on the benefits of owning these stocks.
Let us help you eliminate this bias. Professional advisors with disciplined systems of investing tailored specifically to your investment goals will allow you to overcome many of the obstacles inherent in our very nature. At DWAM, we can help.