Investor Psychology

Question 1

What is representativeness?

Answer 1

To evaluate the probability you judge how likely the event is (how well it matches categories in our head)

Question 2

What are the 4 types of representativeness?

Answer 2

• Base rate neglect:info that reflects the actual rate of occurrence in the population (we tend to look at description rather than numbers)
• conjunction fallacy:the probability of 2 events happening together can’t be bigger than just one of the events happening
• gambler’s fallacy:belief that once something happens it is less likely to happen again
• hot hand fallacy:belief that once an event happens several times in a row it is more likely to repeat

Question 3

What is availability?

Answer 3

People asses the probability of an event happening by how easy it comes to mind
Events that are easy to imagine are judged to be more frequent

Question 4

What are the 2 types of availability?

Answer 4

• recent:recent events are easier to recall from memory

- salience: highly vivid or emotionally charged, influenced by media coverage

Question 5

What is anchoring and adjustment?

Answer 5

When forming estimates, people often start with an initial value and adjust it to form the final estimate

Question 6

What are the 2 parts of anchoring and adjustment?

Answer 6

• irrelevant information can bias the initial statement

- adjustments are biased towards the initial value (usually insufficient)

Question 7

What is overconfidence? 4

Answer 7

• people overestimate how much they actually know/how good they are
• better than average effect
• illusion of control:think that one can control their own fate (perceive games of chance as games of skill)
• optimism:most people’s beliefs are biased in the direction of optimism (underestimate likelihood of bad outcomes)

Question 8

What is the endowment effect?

Answer 8

Tendency for people to require more to give up an item that they would to pay to get it

Question 9

What is escalation of commitment?

Answer 9

Tendency to invest additional recourses in a falling course of action (throwing good money after bad)

Question 10

What is confirmation bias?

Answer 10

Tendency to search for/interpret info in a way that would confirm your preconceptions (try to justify it)

Question 11

What is hindsight bias?

Answer 11

Tendency to see past events as being predictable at the time they have happened

Question 12

What are Heuristics?

Answer 12

Absent of rules which are incomplete and simplify decision making