Welcome to Part 7 of our Behavioural Finance series. If you’ve missed the earlier parts of the series, you’ll find our Introduction to Behavioural Finance here, Part 2: Prospect theory and loss aversion here, Part 3: Availability and Representativeness here and Part 4: The Law of Small Numbers here and Part 5: Anchoring, Conservatism and Herding here and Part 6: Overconfidence and Under-Confidence here.
Last week we looked at overconfidence and under-confidence, which are both examples of self-evaluation bias. This week, we’ll be looking at another form of self-evaluation, in the shape of self-serving bias.
Every sports fan can recall a game (probably many) where they felt wronged by the result, the conduct of the players, or the decisions of the referee. Some fans seem to live in a permanent state of victimisation, always feeling hard done by in one way or another. Diego Maradona’s ‘Hand of God’ goal against England in the 1986 World Cup in Mexico is an example that English people often cite as one of the greatest sporting injustices of all time. But it’s unlikely it’s viewed this way in Argentina. This disparity is an example of self-serving bias, where we selectively interpret the world to suit our own beliefs and convictions.
It’s not just in sport that we display this partisanship, but in many aspects of our lives we are often our own biggest fans and our own most enthusiastic cheerleaders. We believe so deeply in our own abilities that when we see success in our life, we’re not at all shy in taking the credit for it and chalking it all down to our skills, ability and hard work.
However, this self-congratulatory outlook doesn’t end with just claiming all the credit for success. Here, we get selective again, because as well as claiming responsibility for success, we have a tendency to reject responsibility for failure. We prefer to put failure down to factors outside of our control, like the impact of other people or just bad dumb luck. Self-serving bias can even be seen in the way governments talk about the economy. In economic good times, it’s all down to the incumbent party’s shrewd economic policy; in bad times, it’s down to uncontrollable global market forces or the mistakes of the previous administration.
Confirmation bias and self-attribution bias
Self-serving bias has two components, which are similar and can have a joint effect on how we make decisions about investing: confirmation bias and self-attribution bias. Put simply, they are ways of confirming one’s existing beliefs, or taking credit for success where it might not be due.
Confirmation bias: Imagine you just heard some private news about a company that you own shares in, or you received a tip about a future investment opportunity. In the case of confirmation bias, when we get this new information we tend to interpret it in a way that is consistent with our prior beliefs; we see it as confirming what we already believed. Perhaps you decide to act on the tip because you felt all along that this company was on the verge of inventing the Next Big Thing – that is confirmation bias at work. It can also work in the opposite way when, for example, we discount new information that conflicts with our previous beliefs by ignoring it or choosing not to act on it.
Self-attribution bias: We see self-attribution bias occurring when we are quick to attribute our successes to our own purposeful and intentional actions but ascribe our failures to factors out of our control. This reaction is seen as a form of self-protection or self-promotion.
Implications for investors
We see confirmation bias everywhere in our lives. One example is in the papers we read, choosing titles that align with our own political views, or even in the friends we keep, spending our time with people who share and amplify our own outlook on life.
For investors, the problem with confirmation bias is that the tendency to editorialise the information coming their way could lead them to make mistakes that have a negative effect on their returns. Investors could be ignoring potentially valuable information or confirming misplaced views, meaning they end up with a one-sided understanding of a situation. The root of confirmation bias lies in overconfidence and a belief that your own view, or the initial view you held, is the right one. You will only listen to information that supports what you already believe.
Another problem for an investor with a strong self-serving bias is that they may not be able to accept the information an adviser gives them. This, in turn, can be problematic for a relationship based on trust. Being selective with information and blaming other factors if things aren’t working out is not the way to plan for your financial future. It is about being open to accepting guidance so you can take responsibility for your finances. If you don’t do it, no one else will.
This phenomenon is common in everyday life also, as Professor Kahr explains:
“The self-serving bias offers us not only a temporary sense of psychological comfort – often false comfort – but, in more extreme instances, it might represent an attack on truth, sometimes approaching delusional proportions. The psychotherapist, like the financial adviser, must endeavour to find a diplomatic way to help his or her patients or clients to confront some often-unpalatable truths in a sensitive and digestible manner.”
If you would like some help in planning your ideal financial lifestyle, please feel free to get in touch.
Questions to Ask Yourself
How strongly do you agree or disagree with the following statements?
- I tend to get all my financial news from the same one or two sources.
- I can remember more examples of times I was proved right by the markets than times I was proved wrong.
- When it comes to investing, I believe I am in the best position to decide what’s right for my money.
Next post: Projection Bias and Magical Beliefs.
This document is marketing material for a retail audience and does not constitute advice or recommendations. Past performance is not a guide to future performance and may not be repeated. The value of investments and the income from them may go down as well as up and investors may not get back the amount originally invested.