WP INDIVIDUAL.docx - Regret-aversion bias Regret-aversion...

This preview shows page 1 - 3 out of 6 pages.

Regret-aversion bias Regret-aversion bias may occur when Mr.J refuses to make any asset allocation decision because of the fear that the decision will turn out to be wrong and may lead to the feelings of regret. Regret may cause emotional pain. Regret aversion causes investors to forecast and distress the pain of regret that comes with incurring a loss or relinquish a profit. There are two types of errors which are error of commission and omission. Error of commission occurs when an investor makes a decision which turns out to be wrong, while error of omission occurs when an investor omits an opportunity by not taking any decision. M. J may have missed an opportunity to invest in something that later appreciated in value and regrets his failure to reap profits. Regret aversion can cause Mr. J to hold onto losing positions too long while having asset allocation decisions. People don’t like to admit when they’re wrong, and they will go to great lengths to avoid selling a losing investment. This behavior may be hazardous to one’s wealth. Overconfidence bias Overconfident investors overestimate their ability to evaluate a company as a potential investment. As a result, they can become blind to any negative information that might normally indicate a warning sign that either a stock purchase should not take place or a stock that should be sold. Some investors believe that they have special impression and reasoning skills that help them predict the outcome of the market. It is difficult to avoid overconfidence bias. This is because whenever an investment decision is being made, investors are confident because of the research that they may have done. Mr. J tends to have too much confidence in the accuracy of their own judgments. This may affect Mr. J asset allocation decisions when he doesn't understand the historical investment performance statistics, overconfident investors (Mr. J) can underestimate his downside risks. As a result, Mr. J can unexpectedly suffer poor portfolio performance. Self-control bias Self-control bias is a bias in which people fail to act in chasing their long-term, overall goals because of a lack of self-discipline. The primary challenge in investing is saving enough money for retirement. When it comes to money, people may know they need to save for retirement, but they often have difficulty relinquishing present consumption because of a deficiency of self-
control. Hence, investors have an unsymmetrical time preference, which negatively impacts their decision making in asset allocation. It shows that Mr. J prefers a higher standard of living to a lower standard of living which wants to maximize consumption spending in the present. For instance, people may be unable to lose weight despite knowing that it is in their best long term interest to do so. They may continuously choose to eat unhealthy food despite knowing that it will cause harm to them. They tend to overvalue the immediate gains arising from the risky

  • Left Quote Icon

    Student Picture

  • Left Quote Icon

    Student Picture

  • Left Quote Icon

    Student Picture