What is bias?
Bias in trading is a psychological phenomenon, in which an investor makes a decision based on their pre-conceived ideas of what will or won't work without considering the evidence. Bias may also manifest itself in retaining an asset for too long or otherwise behaving against their best interests.
Where have you heard about bias?
As an investor, you may have been warned against bias by your financial adviser. Investment guides may discuss the danger of bias, and the subject is covered from time to time by specialist financial media.
What you need to know about bias...
One of the most common forms of bias is called confirmation bias, in which the investor will seek out evidence that seems to support their pre-conceived position. The famous investor, Warren Buffet, has discussed the problem of confirmation bias, one of the most common forms of bias. He says in order to avoid it, investors should:
- Be aware of the danger of confirmation bias, and acknowledge that their judgement can be clouded by it.
- Aggressively seek out and understand information that disagrees with their existing belief.
Another form of bias is sunk cost bias. This can occur when someone has invested so much money, time or energy into a particular venture or investment that they will keep going without cutting their losses, despite its repeated failure to deliver. Remember – an investment doesn't 'owe' you anything.