Base-rate neglect: a disregard of fundamental distribution levels. The majority of the people ignore statistical data to conclude.
Representativeness—ignoring both the base rates and the doubts about the veracity of the description.
We focus on the other aspects rather than statistics for making a decision. For example, selecting a player based on his build and look rather than his past performance statistics.
Selection of investment by story prevailing at street rather than the past performance of the company. This falls under this bias.
When the stereotypes are false and the representativeness heuristic will mislead, especially if it causes people to neglect base-rate information that points in another direction. Even when the heuristic has some validity, exclusive reliance on it is associated with grave sins against statistical logic.
Investment – We know that very few companies survive after 10 years of operations. So, when we have seen any companies that come as a next google, Facebook, Amazon, Infosys, Dmart, etc. then we should have data which suggests that if the company has not seen 10 years of journey, then we should stay away from it.
When we make any decisions, we should not avoid statistical data. Because avoiding such data can misguided us and we ended up taking miserable decisions.
It is also logical that low return ratio companies will not be going to give a higher return to us (else we have bought it at deep discount-then also the lower probability to give multifold returns), then also when we have any good narrative about the company, we start chasing it. Never avoid the voice of numbers because it can tell us a real story.
We focus on the stories of management, industry, economic growth potential but forget to focus on the past performance of the company. If past performance says that the company is not strong enough to perform then enough external opportunities also cannot do anything. But people follow stories and avoid base rates or probabilities and end up with blunders.
This entire series will be review with various examples from books which are “Thinking, Fast and Slow” and “The Art of Thinking Clearly“.