The Biggest Threat to your Investment Decisions and What You can do about it!

One of my clients got a call from her mother when we were seriously building her portfolio. I enquired after seeing her panicky reaction. Her mother wanted my client’s son to be removed from a school immediately because there is an accident happened in the swimming pool. The student died during a swimming session. How correct the decision would be to take the child out of the school without understanding what exactly happened?

Be it good or bad, human mind takes decisions based on availability bias. Read ahead to understand the impact of availability bias in the investment decisions we make and how we can avoid this situation.

What is availability bias?

The availability bias is nothing but taking decisions influenced by the recent happenings or under dramatic circumstances. Most of the times, we make decisions based on such occurrences. Yes, we do this while investing our hard earned money.

What happens when you take investment decision influenced by availability bias?

How do you decide to buy or sell stocks? Do you just rely too much on immediately available information? It could be something you read in a paper, advice from your friend or hyped among investors. Do you know what happens when you take such decisions?

You must know about few incidents that happened in the recent past. India’s largest coal production company Coal India came public in 2010. It was known as ‘mother of Indian IPO’. Some even claimed that Coal India IPO would show the mountain to climb for the investors. The investors rushed and bought a high number of stocks. Look at it now, just within 3 years. As the coal prices and so the stocks going down, it is considered as the most dreadful investment option by the investors. The reliance IPO stands out as one more example here.

The same happened with the tech bubble in the end of 19s and the beginning of 20s. Everyone wanted to become an entrepreneur and holding some stocks that has ‘.com’ in its name. Not only in India, house bubble that occurred in USA is the perfect example of people loosing huge if the decision is taken because of availability bias. The reason is the popularity of the products.

How can we avoid falling a victim of availability bias?

Sir John Templeton, a brilliant investor and mutual fund pioneer, even advises us to avoid popular. He says, “Avoid the popular. When any methods of buying or selling stocks become popular, move on to the unpopular one”

Taking decisions based only on emotions, immediately available information, popularity leads to disaster. What can be done to avoid putting ourselves in such scenario? Study, study and study more about the product before investing in it.

Read, analyse and map with your goals while creating a portfolio. Invest in a product only when you have made enough research about it. Listen to what others are saying without having any prejudiced thoughts. Use the information collected from others just as pointers for your research, not for taking any major decisions. Analyse the pros and cons of each product.

Seeing any red flags in the portfolio. Do not ignore them. Dig more to understand why you have them in red. At the end of the research the red ones may become green and vice versa.

Bottomline:

Think about September 11 terrorist attack on the twin towers in America. Remember looking at the planes crashing at the twin towers and the fatality it brought in? Imagine, what would have happened if people chose to go by road instead of flying due to availability bias? Road accidents would have gone up. Whereas in reality, flight journey has become much safer due to the safety measures applied all over the world.

Likewise, not getting influenced by your emotions, the recent ups and down in the market, information from your friend or family is very important while taking the most important decisions about your investments.

Still feeling difficulty to get rid of these. Follow the simple exercise to get rid of availability bias.

-          Write about a product you want to buy or sell

-          Write about the reasons why you want to buy or sell

-       Take a break once written. Go out for walk, read a book, watch a nice movie or play with your child, so that you don’t think your investments.

After a break read the reasons again and again. You will get a clear picture on what exactly needs to be done now. Take your decisions brilliantly now!

K. Ramalingam is the chief financial planner at Holistic Investment Planners, a leading financial planning and wealth management company.