Cognitive biases and heuristics that affect investor decision making, such as anchoring, loss aversion, and overconfidence.
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- What is anchoring bias?
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The tendency to rely too heavily on an initial piece of information (the anchor) when making decisions, even if that information is irrelevant.- Define loss aversion.
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The tendency to prefer avoiding losses over acquiring equivalent gains; losses feel about twice as painful as gains feel good.- What is overconfidence bias?
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The tendency of investors to overestimate their ability to predict future market movements and the accuracy of their knowledge.- Define confirmation bias.
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The tendency to search for, interpret, and remember information that confirms one's preexisting beliefs while ignoring contradictory evidence.- What is the availability heuristic?
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A mental shortcut in which people estimate the probability of events based on how easily examples come to mind, rather than on actual probability.- Explain the representativeness heuristic.
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A mental shortcut in which people judge the probability of something belonging to a category based on how similar it is to the typical example of that category.- What is status quo bias?
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The preference for the current state of affairs; a disinclination to make changes even when those changes might improve outcomes.- Define recency bias.
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The tendency to overweight recent events and information when making decisions, neglecting the longer-term historical context.- What is the sunk cost fallacy?
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The tendency to continue investing money or effort into something because of the money or effort already spent, even if it is no longer the best choice.- Define herding behavior.
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The tendency of investors to follow the actions and opinions of other investors, buying or selling in groups rather than making independent decisions.- What is hindsight bias?
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The tendency to see past events as having been more predictable than they actually were; believing 'I knew it all along' after the outcome is known.- Define the framing effect.
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The tendency of people to react differently to a choice depending on how it is presented (framed), even when the outcomes are identical.- What is mental accounting?
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The tendency to categorize, treat, and evaluate financial activities in separate mental accounts rather than as one unified portfolio.- Define the disposition effect.
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The tendency of investors to sell winning stocks too quickly and hold losing stocks too long, the opposite of 'cut losses, let winners run'.- What is home bias?
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The tendency of investors to overweight their own country's stocks in their portfolios, neglecting international diversification opportunities.
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