What is Confirmation Bias, and How Does It Affect Your Investments?
November 4, 2018
By Michael List, CFP® • Portfolio Manager
I don’t like to exercise, and thanks to the Internet I now have confirmation from Science that even if I choose to start exercising in January, I don’t have to make that big of a commitment (13 minutes, to be exact). Isn't the Internet great? There is so much information available you can find an article, study, or opinion that agrees with you.
In Behavioral Finance, this is called confirmation bias. Mainly, we have a tendency to search for, interpret, and recall information that affirms our preexisting beliefs. There are a lot of areas confirmation bias can be present in our financial lives.
HOW CONFIRMATION BIAS AFFECTS YOUR VIEW OF THE MARKET
In the past month, I saw two headlines about preparation for retirement. One said you would need to accumulate $5 million if you want to retire a few years early, while the other questioned the idea of savings for retirement at all. You know, YOLO (You Only Live Once).
As October is now in the rearview mirror, another area ripe for "confirmation bias" is volatility and how it will affect the market. On one hand, the economy and corporate profits are growing at the fastest pace in years. While, the growth rates are likely to slow from today’s level most indicators are leaning toward a continuing expansion. On the other hand, tariffs, a less accommodative Fed and rising interest rates add new challenges that markets need to deal with going forward. There are no shortage of opinions and charts to support either of these forecasts.
Several weeks ago, my colleague Colin O'Shea wrote a commentary on the market’s climb the last 6 years contrasted with numerous predictions of market crashes from naysayers as the market rose. History has not been kind to ‘eternal market bears’ as bull markets have persisted longer than bear markets. It is true that eventually one pundit finally times it right (after many false calls) but they are the exception rather than the rule. Research in this area is clear that investors who try to time market highs/lows or those who trade based on emotions underperform a basic buy and hold strategy. Consistent solid performance combined with the wonder of compounding will benefit your portfolio with time in the market rather than “timing” the market.
We research many diverse opinions and data to formulate our investment outlook, however we always try to counter our confirmation bias by asking, “What if we are wrong?” This is the reason we construct broadly diversified portfolios with a focus on fundamentals (valuation and quality, to name two). Then, we match these portfolios with your financial goals, resources and risk tolerance to determine an asset allocation, which provides the best likelihood of accomplishing your financial goals regardless of when the next bear market starts.
If market volatility, or something you read on the internet has you stressed, schedule a time with your Advisor to update or develop your financial plan. And, if you would like to drop a few pounds, set a timer on your phone for 13 minutes and get moving.