In the beginning of your investment journey, you decided you are only going to rely on fixed income instruments to plan your financial future. After this decision, you seem to constantly get news of friends, family and relatives who have fared badly in the stocks, lost miserably in Mutual Funds, failed to retrieve any premium from the life insurance companies and every possible financial disaster. You seem to be at the receiving end of every disastrous new that has ever taken place in the financial world. Newspapers, emails and all other news platform also seem to carry on the same news. This confirms that your decision to invest in fixed income instruments has been a good decision, as the world has already declared that financial disasters are the order of the day.
You have convinced yourself that you have taken a positively life changing decision. However, behavioral analysts will tell you that you have trapped yourself in a cognitive bias called Confirmation Bias. Cognitive biases are certain ways of thinking which leads to deviations from general standards of good judgment or ability to make decisions. Cognitive biases are rational deviations rooted inductive reasoning, which convinces the individual of their enhanced cognitive ability and not of a cognitive bias. Simply put, you might be making a life changing mistake but the mistake seems so rational that you are convinced that you are doing the right thing. One such cognitive bias is confirmation bias. In such a scenario an individual tends to systematically reject any opinion that contradicts their opinions and decisions. They selectively pay attention to those news and events that confirms that their opinions or decisions have been the right one.
It is often called the ‘you see what you want to see’ phenomenon. Conformation bias has been attributed to be the reason why stock markets get affected by speculation. Bullish markets tend to remain bullish when a positive event is anticipated. You may have noticed in the Lok Sabha election of 2014 the usage of confirmation bias and how it affected the markets. Even before the BJP could come into power the stock markets became bullish because of the anticipation that a change in power is coming for the good. Hence, people started investing in anticipation and ignored any contradictory results that may state that a change in power is may also not be possible. Hence, when a change in power actually occurred it became a bull market. This is how markets are affected by speculation, through confirmation bias. The more investors confirm a web of speculations; it is reflected in the markets.
Have You Fallen for Confirmation Bias
It is very hard to distinguish when you have fallen for confirmation bias and the times when you have taken a rationally sound decision. However, the signs are not hard to decipher. Start asking yourself: what kind of an investor are you? The best reflection of that is in your portfolio.
- Asset Allocation: In your portfolio, if all the assets are concentrated in one asset class despite having awareness about other instruments then you may have fallen victim to confirmation bias. You have deliberately sieved information and collected positive aspects about the asset class you are invested in.
- Flexibility: This is one aspect which shows that you are open to accepting opinions which are contradictory to yours. You do not ignore them or falsify them because they contradict your believes. If this is your investing attitude, then you may have dodged confirmation bias. However, if you have fixed views about investments and deny considering any other view points, then you may be continuously falling for confirmation bias convincing yourself, your reasons are best justified.
Overcoming Conformation Bias
Let us take an example: You are looking to invest in stocks and the market is ripe with news of stock crash of a company. Now you believe that investment in such a company would only result in losses. As a result you read only those bits which confirm or speculate the stock crash. In your biased “research” you overlook the fact that the company has already launched a product and found investors. In a few years time the investors will have generated returns and you will have lost an opportunity. This is perhaps a common scenario with a lot of investors.
Both Sides of the Coin
The answer is simple, look at both sides of the coin. Do not write off something as a non investment option based on speculation and then read further to only supplement the news. Instead try looking for a second opinion. Someone may have something different to say, a fresh perspective and may shed a different light altogether.
A lot of times we are not going to be aware that we are falling for a confirmation bias. It happens rapidly and rationally. It is in your benefit to habitually get a second opinion, a voice of dissent. Going to a financial advisor could be a good way of overcoming this. Advisors are aware of the investing trends; they can gauge your investing appetites and come up with an investment plan which is best suited for you.
It is not about confirming or denying certain facts. It is about understanding a simple fact that decisions taken by an investor has the potential to affect their lives. Hence, when such vital decisions are at stake, it is only wise to look at an aspect from every possible angle. You have heard of so many investing miracles. That definitely did not occur because the investors chose to confirm and not pay attention to contradictory ones. Investing, as it often said, is a lifelong journey and just the way you grow and change as a person, the same applies for your investments. Contradictions are healthy and once you see your investment in the light of dissent you will start to make better decisions.