FEATURE: BEHAVIOURAL FINANCE
you think you know, the more likely you are to suff er the
illusion of control.
So-called risk-management techniques have clearly fostered
the illusion of control. Th e idea that if we can quantify risk we
can control it is clearly deeply fl awed. In fact, we can neither
measure nor control risk. Simply by providing a number, we
fool ourselves into thinking that we are in control.
Th e third barrier is self-serving bias. Th is is an innate desire
to interpret information and act in ways that support our
interests. A classic example of self serving bias can be found in
a recent Bloomberg story on Moody’s and S&P. None of the
80 ‘AAA’ securities in the ABX indexes meets the criteria that
S&P themselves defi ne! Yet only one of these bonds had been
downgraded by S&P, and none by Moody’s.
Th e fourth hurdle is myopia (or hyperbolic discounting),
which refl ects the idea that consequences which occur at a later
date tend to have much less bearing on our choices the further
EXECUTIVE SUMMARY
into the future they fall. Th is can be summed up as ‘eat, drink
and be merry, for tomorrow we may die’. Of course, this
• Describing the crisis as a black swan
ignores the fact that on any given day we are roughly 26,000
abdicates responsibility.
times more likely to be wrong than right with respect to
• There should have been little doubt a
making it to tomorrow!
crisis was coming.
• Behavioural fi nance helps
LACK OF ATTENTION
explain why.
In a world in which short-term profi ts are valued so highly, it is
exceptionally hard to focus on the longer-term picture.
© MARK HIGGINS Th e fi nal barrier is inattentional blindness, which refers to
the fact that we don’t see the things we don’t look for. Th e
Th ere are fi ve major psychological hurdles classic experiment in this area concerns watching a video of
that hamper us in our ability to deal with two teams playing basketball. One dressed in black, the other
predictable surprises. First, the ever-present dressed in white. You are asked to count the number of times
over-optimism. Everyone assumes they are the players in white pass the ball among themselves. Half way
less likely than average to have drinking through the video a man dressed in a gorilla suit walks on,
problems, to get divorced or be fi red. It is beats his chest and then walks off . While watching the video
likely that the same over-optimism applies about 80% of people fail to spot the gorilla. Why? Because
when it comes to predictable surprises. they were distracted with the task of counting the passes.
We also suff er from the illusion of Bubbles are a by-product of human behaviour, and human
control, which refers to the belief that we behaviour is all too predictable. Th e details of bubbles change,
have infl uence over the outcome of but the general patterns remain similar and such events are
uncontrollable events. Th e illusion of clearly not black swans. Of course, the timing of the bubble
control is exacerbated by information: the bursting remains as uncertain as ever, but the events are
more you think you know, the more likely predictable. We have long been proponents of the
you are to suff er the illusion of control. For
instance, E Langer has shown that people
will pay four and half times more for a “The nature of predictable surprises is that
lottery ticket that contains numbers they
choose rather than a random draw of
while uncertainty surrounds the details of
numbers. Th e same study demonstrated
that people will bet more on a coin toss
before the coin is actually tossed, rather the impending disaster, there is little
than after, as if they can infl uence the spin
of the coin in the air! Th e illusion of control
uncertainty that a large disaster awaits”
is exacerbated by information. Th e more
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