How cognitive dissonance affects our investments
When presented with information that conflicts with pre-existing beliefs, people often experience mental discomfort--a psychological phenomenon known as cognitive dissonance. Cognitive dissonance is a belief perseverance bias, because humans tend to stick with ideas they already believe to be true. This is a very common and very human characteristic, and this concept is ever-present in the world of investment decision-making.
When it comes to investing, cognitive dissonance can cause investors to fail to recognize
Information that could help them make a good investment decision because they don't want to admit that they made a poor decision in the first place. However, people who miss opportunities to learn from past miscalculations are likely to miscalculate again, renewing a cycle of anxiety, discomfort, dissonance, and denial.
The thought of risk is not something we are comfortable with and Security is what we seek – a secure job, secure life, secure investments. So when you hear your friend getting great returns on a Mutual Fund scheme you console yourself by saying that your money is safe in a fixed deposit scheme even though you are getting extremely conservative returns. Do you realize that you have been using cognitive dissonance all this while? You are constantly consoling yourself with ideas of security, the moment your decision as an individual comes under the radar.
A few other examples from recent past where cognitive dissonance has affected adversely the decisions of the investors (I will not elaborate each of these as the article will become too large) :
• Continuation in YES BANK equity investment, in spite of repeated news on Governance issues.
• Continuation in regular plans Mutual Funds, knowing well the benefits of Direct plans
• Time and again deviating from disciplined approach to Long term systematic investing and making decisions based on TV news (Crude oil price, US China Trade War, High P/E ratio etc.)
As is often told –
*Perception is reality, Truth does not exist*
A Good Investment Advisor can help you in overcoming these biases and help you in making more rational and better investment decisions.
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