Home > Education > Do all of us suffer from "confirmation bias"?

Do all of us suffer from "confirmation bias"?

Sunday, August 19, 2007 Leave a comment Go to comments

I was reading some stuff on behavioral finance and read about a term called “confirmation bias”.

Here is the definition for you:

“Confirmation bias is a cognitive bias whereby one tends to notice and look for information that confirms one’s existing beliefs, whilst ignoring anything that contradicts those beliefs. It is a type of selective thinking. ”

OR “Confirmation bias is the technical name for people’s desire to find information that agrees with their existing view.”

For more details you can read this.

How do we exhibit this behaviour in the markets?

Lets assume that your view on the market is “bullish” because since 2003 you have been hearing this ‘fundamentally good” story about India. Also, all of us have seen the markets scale new highs during the last four years. I don’t think that anyone in the market is feeling “long term bearishness” about India and its economy.

Now lets say suddenly, the markets start to come down-say 10%? What happens? All of us say that it is a “normal” bull market correction as we don’t find any apparent reasons for the fall.

Now lets assume markets fall another 10% as there are stories that US might face a recession. Now we “ignore” this piece of news saying that Indian economy is driven by domestic factors. Our “long term bullish” view is so strong that nothing seems to change it.

Next comes the news of a slowdown in the “Indian economy with 9% GDP growth falling to 7.5% growth. The markets fall another 10%.Now we start doing some “serious” research. We again come back with the “long term ” bullish because all the newspapers and news channels are saying so.Our favourite stocks have fallen 30-40% from the top but we still want to hold them as long term picture look “rosy” or the sector holds lots of “promise”.We start reading all the “positive” news flow about the stocks so as to reinforce our “bullish” view.Its like filtering out everything that doesn’t support our view.

If you don’t understand what I am saying, rewind back to 1999-2000 time when the whole world was so bullish about technology. Despite all the warnings, people went on to hold on to their beliefs till the technology bubble finally burst.

I know all of us love our beliefs and opinions but holding them too tightly can sometimes be very costly in markets.When was the last time your decisions were affected by such “selective” thinking ?

Categories: Education
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  1. Monday, March 17, 2008 at 10:37 pm

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