bias

Question 1

Conservatism Bias

Answer 1

• Cognitive bias
• Des: Inadequately updating analyses with new information when it becomes available.
• Cons: failure to act on new information, slow to update forecast after new information, making inappropriate financial decisions

Question 2

Confirmation Bias

Answer 2

• Cognitive bias
• Des: Failure to seek out contradictory facts or opinions
• Cons: undiversified portfolios as previous choices are believed to be correct, holding too much company stock
• overcome: seeking contrary opinion to question current thesis

Question 3

Illusion of control bias

Answer 3

• Cognitive bias
• Des: people think they can control or affect results when they actually can’t
• Cons: trade more than is prudent or inadequate diversification.

Question 4

Representativeness bias

Answer 4

• cognitive bias
• Des: a false belief that the past will always repeat itself and an urge to categorize new information based on previous personal experiences and classifications
• cons: investing in the latest “hot investment”

Question 5

Hindisght bias

Answer 5

• cognitive bias
• des: the inclination, after an event has occured, to see the event as having been predictable, despite there having been little or no objective basis for predicting it.
• cons: investors may overestimate their ability to predict an investment outcome
• overcome: keep investment diary

Question 6

Anchoring bias

Answer 6

• cognitive bias
• des: subsequent adjustments for new information are around the initial “anchor point”
• cons: focus on initial anchor point may result in an insufficient adjustment

Question 7

Mental accounting bias

Answer 7

• cognitive bias
• des: money is differently based on how it is categorized
• cons: investors might disregard opportunities to decrease risk by diversification

Question 8

framing bias

Answer 8

• cognitive bias
• des: tendency to receive and interpret information differently depending on its source and/or presentation rather than on the pure value of the information itself.

Question 9

availability bias

Answer 9

• cognitive bias
• des: placing more importance on information that is more easily gathered or remembered
• cons; investors may limit their investment opportunity set and fail to diversify or achieve optimal portfolio

Question 10

loss-aversion bias

Answer 10

• emotional bias
• des: people have a tendency to dislike losses more than they like comparable gains
• investors feel the pain of a loss more than twice as strongly as they feel the enjoyment of making a profit

Question 11

Overconfidence bias

Answer 11

• emotional bias
• des: tendency to overestimate one’s own abilities

Question 12

status quo bias

Answer 12

• emotional bias
• des: a resistance to change
• cons: investors may retain portfolios with risky features
• overcome: having diversified portfolio and proper asset allocation

Question 13

Endowment bias

Answer 13

• emotional bias
• des: valuing assets more when they own it than when they do not.
• cons: inappropriate asset allocation, not understanding the risk profile of familiar asset classes

Question 14

regret-aversion bias

Answer 14

• emotional bias
• des: investors avoid making judgements for fear of making bad decisions
• cons: engage in hearding behavior, invest in popular assets.

Question 15

greater fool bias

Answer 15

• emotional bias
• des: you can make money from buying overvalued securities because there will usually be someone who is wiling to pay an even higher price, when the market runs out of fools, prices will sell-off
• cons: leads to irrational decisions, an important factor is the creating of inflations (bubbles) in certain asset classes