Understanding financial bias: What is it?
We all know what bias is and it’s something you may consider when making decisions in your day-to-day life but it’s also something that can affect financial decisions and, therefore, your lifestyle goals.
Over the next few months, we’re going to explain what financial bias is and how it could be having an impact without you even realising it. By understanding bias, where it comes from and the different ways it can affect decisions, you’ll be in a better position to focus on the facts and make choices that are right for you.
Bias: What does it mean?
First, let’s start with what ‘bias’ means. According to the Cambridge dictionary, the definition of bias is:
“The action of supporting or opposing a particular person or thing in an unfair way, because of allowing personal opinions to influence your judgement.”
We’re all guilty of making snap decisions about people, items, businesses and more, based on opinions and experiences we’ve had in the past, even if these weren’t directly related to the party in question. Being able to do so is important. It allows us to make quick decisions when necessary, even when we haven’t had to make the same choice before, based on the information we’ve gathered over time. It’s something that’s incredibly important for survival and is still useful today.
However, there is a danger of making decisions based on past experiences and information gathered, this is where bias can have a detrimental effect.
Bias, whether positive or negative, can lead to you making decisions that aren’t based on fact. Perhaps they’re based on out-of-date information or a single perspective that means you’ve missed the bigger picture. We know that we should try and focus on the facts when making decisions, but bias can skew our views.
When you think of bias having an impact, many scenarios may spring to mind. However, financial decisions are one important area you should consider the impact of.
How does bias influence financial decisions?
When it comes to finances, you have to make a lot of decisions, especially when you’re planning for the long term.
As a result, you naturally draw on experiences and information to make these choices. Perhaps when you’re deciding where to open a savings account, you’ll draw on news articles you’ve read. Or when deciding where to invest you’ll focus on previous gains/losses when coming to a conclusion. However, it can mean decisions aren’t logical once you start looking at the facts. Emotions, missing information, social influences and much more can mean bias has an impact without you realising.
There are a whole host of ways bias can influence financial decisions, which we’ll look at more in-depth in our next financial bias blog, but one example that can help you understand how financial bias works is confirmation bias.
Confirmation bias refers to the impact first impressions can have. Let’s say you see an investment opportunity that you decide is ‘good’ but you still decide to seek out information before investing your money. Whilst a positive step, confirmation bias means you give more weight to the information that supports your existing view, perhaps discarding those that suggest the investment isn’t right for you. As a result, it could lead to higher investment risk than intended or mean you miss an opportunity.
Learning more about financial bias
Understanding what financial bias is can improve the decisions you make. So, over the next few months, we’ll be looking at the topic in more detail including:
What has an impact on your financial behaviour
Different types of financial bias and their impact
What you can do to minimise the effect of financial bias
Keep an eye out for our latest newsletter or blogs for the next financial bias blog, it could help you better understand the decisions and financial concerns you have.
If you have any questions about financial bias or would like to discuss your long-term plan, please get in touch.
The contents of this article represents the opinion of Ruby Red Financial Planning Limited only. This article is for information only and does not represent advice or recommendation. Please seek independent financial advice before taking any action.
These blogs are for informal purposes only. They are not intended to be seen as advice. If you wish to take acton then please seek independent financial advice first.