In a recent article for Institutional Investor, BAM Alliance Director of Research Larry Swedroe included Daniel Crosby’s new book The Behavioral Investor as one of his favorites on the study of behaviorial finance and how human nature “leads to investment errors, including the mispricing of assets.”
“Crosby begins with a look at the sociological difficulties surrounding investment decision-making,” Swedroe explains, adding, “He then examines how the brain and body are poorly matched to the task of managing investments.”
The article explains that Crosby’s research identified 117 behavioral biases which the book breaks down into four categories: ego, conservatism, attention and emotion:
- Ego: leads to confirmation bias, or the tendency to try to confirm existing beliefs instead of inquiring how we might be mistaken;
- Conservatism, which leads us to place more value on what we already own and less on what we don’t. Swedroe quotes Crosby: “The more time and attention we give a decision, the more warped our sense of what is right may become.”
- Attention: Crosby’s book discusses the issue of loss aversion and how the media fuels our fears and advises investors: “We live in a time when information is more available than ever, but the availability of information says nothing about its usefulness.”
- Emotion: According to Crosby, “Predictably, positive emotion leads us to overstate the likelihood of positive occurrences and negative emotion does just the opposite. This coloring of probability leads us to misapprehend risk.”
Swedroe summarizes Crosby’s recommendations to investors:
- “Systematic investing trumps discretion;”
- “Diversification and conviction can coexist;”
- “Prepare for bursting bubbles without being too fine-tuned to them;”
- “Less is more when it comes to information.”
