Stable Investor’s note: Today’s guest post by Daniel Sparks of Value Folio covers an important topic of Anchoring Bias in investment decisions.
The study of how psychology affects our investment decisions is, rightly so, becoming more and more important. It has even been given a formal name: Behavioral Finance. Do we have to get an MBA or take a psychology class to understand the implications of behavioral finance on our investment decisions? Definitely not. We will have a huge advantage by simply recognizing and understanding the most threatening psychological bias to every investor: the anchoring bias.
John buys shares at $30. 2 months later the same shares are trading at $25. He holds on to the stock because he remembers that he originally paid $30 a share and he doesn’t want to lose money. He keeps holding and the stock drops to $20 a share. He freaks out and sells.