First, four simple truths:
1) People develop guidelines and principles as they experience "life's events"
2) People frequently rely on heuristics, or rules of thumb, to interpret the information they receive.
3) These heuristics are not perfect, and errors can occur.
4) Errors actually DO occur.
Together these account for what is termed "heuristic-driven bias", which many investors may exhibit from time to time. Below I have listed 7 of these biases, each of which I will cover in coming posts. Understanding these biases is the first step in learning how to invest objectively. If you are unaware of certain behavioural finance concepts, it's harder to catch yourself "in the act".. which might (more like WILL) cost you money. These 7 heuristic biases are:
1) availability bias
2) representativeness
3) regression to the mean and stock market prediction
4) gambler's fallacy and stock market prediction
5) overconfidence and expert judgment
6) anchoring and adjustment, earnings forecasts
7) aversion to amiguity
First on the list (next week): availability bias (and maybe representativeness if I'm feeling especially peppy)
Ref: Beyond Greed and Fear: "Understanding Behavioural Finance and the Psychology of Investing" Oxford University Press