Investment Performance Achilles Heel-----It’s You!
By Mark Wendell
Have you made up your mind on just about everything, even before you understand the whole story? It is a normal human tendency to form opinions quickly and stick to them. For instance, when you meet someone, is your opinion of the person formed from the first impression? Or, when you hear a political argument from the other side, is your mind opened or closed? Are you able to concede the “good points” the other side make, or do you dismiss the whole argument? We encounter people and ideas every day, and while most of us would like to think we are openminded, human nature make it extremely difficult to discard our preconceived opinions. So, we almost instinctively filter out the information that doesn’t support our preconceived views, at least initially. Behavioral psychologists refer to this kind of selective thought process as “confirmation bias.”
What does this have to do with investing? Well, when you consider that our investment choices are usually guided by a thought process, it can mean everything. If that thought process is clouded by confirmation bias, you may be making important, sometimes life-changing, investment decisions with one-sided information, and that can dramatically skew the big picture you need to make fully informed decisions. Some of the more costly mistakes investors make can be attributed to confirmation bias which often leads to poor decisions based on incomplete information.
Confirmation bias works subtly, some would say insidiously, inside the minds of investors as they seek nothing more than to make the best possible decisions with their money. Even those who spend as much time analyzing the cons as they do the pros of a given investment or strategy, confirmation bias tricks the mind into giving more weight or credence to the pros, if there is already a preconception in favor of it. Or more overtly, it simply allows us to dismiss or discount information that doesn’t conform to our beliefs. That’s a very dangerous mindset when your money is at stake. By allowing greed, fear, or bias to creep into the process, by filtering out any information that might a raise red flag, or by focusing only on information that validates an investment, then a self-destructive result will surely follow.
Overcoming Confirmation Bias
Overcoming confirmation bias is not as easy as you might think. It is one thing to be aware of it and even make a point of dealing with it. However, it is that same bias that often prevents us from taking the necessary steps to avoid it. If you are the President of the United States, and your policies seem to usually have negative results and go in the wrong direction as far as the public is concerned, you may convince yourself that you are right and the public is wrong, when you only surround yourself with people who agree with you, and you purge those who do not agree. Having the strength and courage to include people and advisors who have differing viewpoints in your life can cure you of confirmation bias, if you are willing to examine their viewpoints with a patient open mind. With this disposition, you can apply a logical and deductive reasoning process relative to your own experiences and views. This formula will lead you to a well informed conclusion that will at least give you comfort with any eventual outcome.
Overcoming confirmation bias doesn’t mean abandoning your beliefs or even your preconceived opinions. Rather it means recognizing how your bias could lead to making bad decisions in any aspect of life. When gathering and analyzing information, try focusing on that which doesn’t conform to your opinion or belief and try understanding why. Just be careful not to conduct biased selective research that will lead to an incomplete picture. The best approach might involve inviting those who don’t share your opinion to give you their view without you arguing yours. Just listen and evaluate. The same can be done by reading blogs and articles by people with different views. The most important point is to work through the thought process more rationally without fighting opposing viewpoints. Let your politics be your politics, but let your money be protected from self-destruction by eliminating confirmation bias.