Biases that affect you

All of us have or develop different types of biases that may hinder our success in the financial markets. These are generally rooted deep inside, so you won’t notice when your decisions are affected due to them and the decisions eventually lead to losing (money in our context). So, let’s look at some of them that I feel are the most problematic.

• Confirmation Bias

  With this bias, you place more weight on the markers that confirm your point of view and disregard markers that go against you. This leads to thinking all is well and naturally makes us overly confident of the decision because we’ve taken out the pieces of information that don’t support the view we are taking. You can try and counter this by continually asking and monitoring why the particular buy or sell call your mind is pointing to might be wrong, that way you’re covered.

• Anchoring Bias

  This is the problem of relying too much on a single piece of information or data point, and it distorts the whole point of view of looking at an asset/company. For example, the most recent stock price can act as an anchor for your decisions, so that you base your study based on where the price is relative to where it has been in the past only. If a stock is at Rs. 100 now and was at Rs. 80 last year, it does not necessarily mean it is overvalued now. The company could have been performing better. Thinking it is overvalued simply due to the stock price rise could make you not pick a winner. So you need to base your study on what really matters, the company’s finances.

• Loss Aversion

  Humans have been found to prefer avoiding losses to making gains. In other words, we like not wasting the money we already have rather than risk that money and make some profit on it. This hinders us because we never want to sell our loss-making positions, which then inevitably turn into bigger and bigger losses, since most of the time the stock would have against you due to some inherent reason. You need to be able to check the opportunity cost of any capital you have invested to counter this, meaning if your money has a chance to grow more elsewhere, you must take it out and put it in the better opportunity.

• Hindsight Bias

  Hindsight bias is a tendency to see beneficial past events as predictable and bad events as not predictable. This clouds your judgment, because you would slip into thinking that for all the bad things that have happened, you have no responsibility. So you need to have a set plan and match that plan for every investment/trade you make so that you know what went wrong. Of course, there are black swan events sometimes, but most of the time there is some problem in the decision itself.

• Bandwagon Effect

  This happens to all of us, when we think because a lot of people are doing it, it must be correct. And this is especially problematic in the financial markets, because most people lose money here, so by default what most people do is wrong. When everyone runs to buy a stock, more often than not that stock starts to show topping signs and drops in not much time. You need to think for yourself to be successful in these markets.

There is an umpteen number of biases that our minds play on us. You can read more elsewhere, but these were the ones I felt I’ve tackled the most myself. So stay safe, and do let me know if you want a specific topic covered! You can read more from me here. Subscribe for free to receive more posts like this every day!