Tag Archives: Thinking

THE INEVITABILITY OF UNLIKELY EVENTS Coincidence

Posted on by under Behavioral Finance

A few times, we think about our friends or relatives and suddenly they come or they call us. Is it telepathy or coincidence?

But many times it happens that when you think of him and he doesn’t call; when you don’t think of him and he calls; when he doesn’t think of you and you call?. . .? There is an almost infinite number of occasions when you don’t think of him and he doesn’t call. But, since people spend about 90% of their time thinking about others, it is not unlikely that, eventually, two people will think of each other and one of them will pick up the phone.

Investment – Such kinds of events are rare but can happen. It can happen that when we punching order to buy some stock and management’s interview comes and announced for subdued performance in the coming quarter. So this can be a coincidence, not that God giving us a sign to do not buy a particular company as of now. So that we have to clearly focus on the investment process prepared by us and must follow it rigorously.

This entire series will be review with various examples from books which are “Thinking, Fast and Slow” and “The Art of Thinking Clearly“.

DON’T CLING TO THINGS Endowment Effect

Posted on by under Behavioral Finance

When we own something, the value of that particular things has psychologically increased for us. Loss aversion stops us from giving up what we own. We are slowly getting emotionally attached to particular products and automatically the value of that product increases for us.

We consider things to be more valuable the moment we own them. In other words, if we are selling something, we charge more for it than what we would be willing to spend for the same thing. We get attached to things we own and we keep on collecting different things. We can safely say that we are better at collecting things than at casting them off. Not only does this explain why we fill our homes with junk, but also why lovers of stamps, watches and pieces of art part with them so seldomly.

We should understand that everything which we own is given by the universe to us for temporary time so should not get attached to it. These things can get separated from us in the blink of eyes.

Business – We can see that owner of the business who is facing losses then also not ready to sell off the business. Also, they seek higher prices to divest business though business incurring losses. The founder of the business is emotionally attached to the business and want to focus on making it profitable. 

Investment – When we own any stocks in our portfolio then we value it more and think that all others own fewer valuable stocks in their portfolio. We tend to sell our ownership for more than what it’s demanded. We feel portfolio companies have higher value and should trade higher than our acquired price. We also keep on purchasing stocks and then when we have owned it, we want to sell it for higher.

This attachment with our portfolio makes us blind to make a rational decision. That’s the reason our portfolio gets flooded with junks and we sell quality because the quality we can sell at a higher value than what we own.

Rather than keep focusing on the purchase price, we should focus on what is a current intrinsic value and fundamental of the company. When we start to avoid looking at the purchase price, the time we start reducing a few mistakes. First, we should write down the exit strategy during the entry time itself and follow it thoroughly. When our exit strategy has been triggered, we should not look at the trading price and dump a particular investment. A clear strategy helps us from the endowment effect.

This entire series will be review with various examples from books which are “Thinking, Fast and Slow” and “The Art of Thinking Clearly“.

YOU LIKE ME, YOU REALLY REALLY LIKE ME – Liking Bias

Posted on by under Behavioral Finance

Liking bias says that the more we like someone, the more inclined we are to buy from or help that person.

We like attractive people, have similar interests as us, having similar origin as us, similar personality as us and we like them.

When a salesperson a language similar to us, similar habits, hobbies then it has a higher chance to crack the business deal. Our mind tells us that the person is similar to us and that creates comfort in our mind.

Business – Advertisers also uses such concepts in their advertisements and they select different celebrities as a brand ambassador because people like them and that creates liking bias. Nowadays, advertisements telecast under various regional languages which can impact more to viewers’ mind.  

Investment – When we give complement to others then it works like a magic. And slowly person starts liking us. Many companies put forward information which we generally like to see such as shareholders friendly management, huge growth potential coming forward, good dividends, asset-light business model, competitive advantage etc. and that creates liking in our mind towards the company. And once we start liking the company, we are not able to see the negatives of it. Rather than get trapped, we should see everything independently and need to be suspicious with everything.

Nowadays, annual reports are getting prepared by agencies that know about what investors like and what investors want to hear, so they print those things only. More people like the company, the more valuable it becomes. For overcoming this bias, we need to check everything mentioned in the annual report supported by data. For example – if they have mentioned assets light business model then they must have higher assets turnover, higher RoA, lower depreciation expense, etc.

This entire series will be review with various examples from books which are “Thinking, Fast and Slow” and “The Art of Thinking Clearly“.

NEVER JUDGE A DECISION BY ITS OUTCOME – Outcome Bias

Posted on by under Behavioral Finance

As an experiment, We prepare different chits and write down different stocks name on those piece of paper. Then we give it to different monkeys to pick it for a week. Few come out as a winner and few as losers. We continue playing the same with winners only. Over some time, one monkey comes as a right in all the time. The media calls that monkey a successful monkey and call everyone to understand his success mantra.

This is an outcome bias; we tend to evaluate decisions based on the result rather than on the decision process. When a person has a good performance track record of stocks picking then we consider him as a good stock picker or an expert rather than knowing the process or it can be possible that past results can be due to pure luck. I met few fund managers who do not read books or annual reports thoroughly but they have survived for 10-12 years so people call them successful and an expert.

In conclusion: never judge a decision purely by its result, especially when randomness or ‘external factors’ play a role. A bad result does not automatically indicate a bad decision and vice versa. So rather than tearing your hair out about a wrong decision, or applauding yourself for one that may have only coincidentally led to success, remember why you chose? what you did?. When we start understanding the process behind success, then we can easily recognize success as a part of luck or efforts.

This entire series will be review with various examples from books which are “Thinking, Fast and Slow” and “The Art of Thinking Clearly“.