“Confirmation Bias”

Back in January when I was (once again) on my “soap box” preaching the value of investment discipline, I shared with you a quote from Leo Tolstoy describing how human beings engage in destructive behavior, even in the face of overwhelming evidence that the behavior will be destructive.

Just this weekend I read an article explaining why human beings behave this way.  The article was not about investing but an analysis of why Health Secretary Kathleen Sebelius launched the website for Obama Care knowing full well it was not ready.

Psychologists call such blinkered thinking, “motivated reasoning.”  Human beings are primarily emotional, not rational, so we engage in “confirmation bias”:  We start off with what we want to be true, look for evidence that supports our hopes, and screen out that which does not.  There are an infinite number of high profile examples illustrating the disastrous effects of such reasoning.  The decision Bush made to invade Iraq.  John Kennedy Jr. knowingly flying a single engine aircraft into a foul storm etc., etc.

I have been stating for years that we all, investors and investment advisors alike, have an opinion (forecast) about where the market is headed.  And we listen to those “experts” who support our view of the future while ignoring those who disagree.  Acting on that forecast usually ends up being destructive to our financial health.  Recognizing this, (by looking at our past experiences), should be enough to convince us that emotions have no place in the investment decision process.

As an investor you need to get your emotions out of your investment strategy.  The emotions of fear and greed are very powerful enemies of the successful investor.  If you remain rational, you will see that the evidence supporting a disciplined investment strategy is overwhelming.  But I fear that most investors (and way too many advisors) still have a long way to go before they become rational.  If you can, (and that includes getting you ego out of the process) you will be successful, if not, you will be a “loser.”

If you are an advisor you have an enormous responsibility.  Keeping your clients disciplined is always the biggest challenge you will ever face.  But if you succeed, your value to them is “priceless.”