Cognitive biases are systematic patterns of deviation from rationality in judgment. They often arise from the brain’s attempt to simplify information processing. Recognizing these biases can help improve decision-making by ensuring a more objective analysis. Following Cognitive Bias, I’m aware of and able to identify it most of the time.

Cognitive Biases

Anchoring

What it is: Anchoring causes us to rely heavily on the first information we receive about a topic. This initial information serves as a reference point, skewing our judgment and preventing us from updating our plans or predictions as much as we should.
Example: Investors may hold onto a stock that has significantly lost value, believing it will return to its previous high despite evidence to the contrary. Sellers often prominently display the most expensive items to make other items seem like a bargain.
How to recognize: Be aware of initial information and question its influence on your decisions. Use a checklist for important decisions.
How to avoid: Ensure you gather comprehensive information and consider it objectively, not just relying on initial figures or data.

Action Bias

What it is: Action bias describes our tendency to favor action over inaction, even when it might not lead to a better outcome.
Example: Drivers frequently change lanes in traffic, believing it will get them to their destination faster, often only gaining a few minutes at the expense of increased driving risk.
How to recognize: Notice when you feel compelled to act without clear evidence that it will improve the situation.
How to avoid: Pause and evaluate whether action is necessary or inaction is more beneficial.

Confirmation Bias

What it is: This bias causes individuals to seek information confirming their beliefs while ignoring or dismissing contradictory evidence.
Example: An investor might focus only on positive news about a favored stock and ignore adverse reports. Most frequently, I’m into this trap 😞😞
How to recognize: Be aware of your tendency to favor information that aligns with your beliefs.
How to avoid: Actively seek out and consider opposing viewpoints and evidence.

Hindsight Bias

What it is: This bias describes our tendency to look back at an unpredictable event and believe it was easily predictable, also known as the “knew-it-all-along” effect.
Example: After a market crash, investors might believe they saw it coming, even if there were no apparent signs beforehand.
How to recognize: Reflect on your predictions and compare them with actual outcomes to identify any hindsight bias.
How to avoid: Decision Journal, i.e., Keep records of your predictions and reasons to objectively review them later.

Availability Heuristic

What it is: This mental shortcut involves estimating the probability or risk of something based on how easily examples come to mind.
Example: More houses have been sold because most of my friends purchased houses in the last two years, even though the number of homes sold in the previous two years is less than in the preceding ten years.
How to recognize: Consider how recent events might disproportionately influence your judgment.
How to avoid: Consider statistical data and broader evidence rather than relying solely on recent or memorable examples.

Recency Bias

What it is: It refers to giving undue importance to recent events or information compared to older data.
Example: An investor might weigh too much on recent market performance when making long-term investment decisions.
How to recognize: Acknowledge the tendency to focus on recent information.
How to avoid: Review historical data and trends for a balanced perspective.

Boiling Frog Syndrome

What it is: This metaphor suggests that gradual changes are more challenging to notice and respond to than sudden changes.
Example: A business may fail to adapt to changing market conditions and eventually suffer significant losses.
How to recognize: Regularly review and assess changes, even minor ones.
How to avoid: Stay vigilant about gradual changes and make proactive adjustments.

Fear of Missing Out (FOMO)

What it is: FOMO promotes the desire to stay continuously connected with a social group and updated on their activities, which can lead to addictive behaviors.
Example: An investor might buy into a trending stock for fear of missing out on potential gains without proper research.
How to recognize: Notice when decisions are driven by the fear of missing out rather than rational analysis.
How to avoid: Make decisions based on careful analysis and long-term goals, not short-term trends or peer pressure.

Loss Aversion

What it is: This bias describes the tendency to fear losses more than we value gains.
Example: Investors may hold onto losing investments longer than they should, hoping to recover their losses.
How to recognize: Be aware of your emotional reactions to losses versus gains.
How to avoid: Focus on objective analysis and consider the opportunity cost of holding onto losing investments.

Sunk Cost Fallacy

What it is: This fallacy occurs when individuals continue a behavior or endeavor due to previously invested resources (time, money, effort).
Example: An investor might keep funding a failing project because they have already invested significant resources.
How to recognize: Question whether continuing an investment is based on future potential or past investment.
How to avoid: Make decisions based on future benefits rather than past investments.

Risk Aversion

What it is: Risk aversion describes the tendency to prioritize avoiding losses over making gains.
Example: An overly conservative investor might miss out on higher returns by avoiding riskier but potentially more profitable investments.
How to recognize: Recognize when fear prevents you from taking calculated risks.
How to avoid: Balance risk and reward by diversifying and considering the long-term potential.

Herd Mentality

What it is: This bias involves following the actions of others rather than performing independent analysis.
Example: Investors might buy into a stock during a market bubble because everyone else is, leading to inflated prices.
How to recognize: Notice when your decisions are influenced by others rather than your research.
How to avoid: Conduct your analysis and make informed decisions based on your criteria.

Endowment Effect

What it is: This bias occurs when individuals place a higher value on something they already own.
Example: An investor might overvalue inherited stocks and hold onto them despite better investment opportunities.
How to recognize: Know your emotional attachment to possessions or investments.
How to avoid: Assess the objective value of assets and make decisions based on current and future potential.

Status Quo Bias

What it is: This bias is the tendency to prefer things to remain the same rather than change.
Example: An investor might stick with an underperforming portfolio out of fear of change.
How to recognize: Recognize when fear of change is influencing your decisions.
How to avoid: Regularly review and adjust your investments based on current data and future projections.

Similarities and Differences Among Cognitive Biases

Understanding the similarities and differences among these cognitive biases can provide deeper insights into how they influence our decision-making processes.

Similarities

Subconscious Influence: Most cognitive biases operate subconsciously, affecting our decisions without us being fully aware of them (e.g., anchoring, confirmation bias, and availability heuristics).
Emotional Component: Many biases are driven by emotional reactions, such as fear, comfort, and attachment. For example, loss aversion and endowment effect are both influenced by emotional responses to perceived value and potential loss.
Simplification of Information Processing: Biases often arise from the brain’s attempt to simplify complex information, leading to mental shortcuts like the availability heuristic and recency bias.
Impact on Decision-Making: All these biases can distort objective analysis and lead to suboptimal decisions in areas like investing, personal finance, and daily choices.

Differences

Nature of Influence:
- Anchoring and confirmation bias focus on the influence of initial information and existing beliefs, respectively, while the availability heuristic relies on how easily information comes to mind.
- Action bias emphasizes the preference for action over inaction. In contrast, status quo bias underlines the preference for maintaining the current state.
Scope of Impact:
- Herd mentality and FOMO are social biases influenced by the actions and behaviors of others, while biases like risk aversion and loss aversion are more individual and relate to personal risk tolerance and fear of loss.
Temporal Focus:
- Recency bias emphasizes recent events or information, whereas hindsight bias involves looking back at past events with perceived predictability.
- Boiling Frog Syndrome focuses on gradual changes over time, contrasting with biases that respond to more immediate information, like the availability heuristic.
Rationalization of Past Investments:
- The sunk cost fallacy and endowment effect involve justifying continued investment based on past resources or emotional attachment. At the same time, confirmation bias tries to reaffirm past decisions.