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Have you ever shopped your way virtuously around a supermarket, making smart decisions about healthy, organic, sustainable produce, protein sources, and beverages, only to toss a handful of brightly-packaged candies in your cart as you wait in line to pay, tired out from all your efforts?
That’s the conundrum facing many investors now, in month two of the coronavirus pandemic, argues AllianceBernstein in a research note posted Friday. We’re burned out, and when that happens, the authors write, “the deliberate and rational part of the brain can become exhausted from coping with challenges and disturbing information.”
The research, produced by the asset manager’s Advisor Institute, is aimed at financial advisers, though the critical reasoning exercises it outlines can be useful to anyone.
The note explores heuristics, the concept made famous by behavioral economists Daniel Kahneman and Amos Twersky. Heuristics are often thought of as shortcuts in thinking: the human tendency to rely on mental models, or rules of thumb, rather than re-creating the wheel every time we’re faced with a new situation.
Heuristics kick in all kinds of experiences, from the most primeval — ancient humans who ran away from any menacing-looking wild animal, rather than trying to analyze the situation — to the most mundane: I like this brand of laundry detergent, so I may as well try their new product if my old standby is sold out.
Where a reliance on heuristics — what Kahneman called “fast thinking” — likely does not serve us is in investing. That might seem obvious, but AllianceBernstein argues we may be like the grocery shopper who tries to do good but ends up making bad decisions: too fatigued by all the gyrations in markets to avoid doing something sloppy even if it works against our best intentions, and possibly even too overwhelmed to care.
“Now, after another month of dealing with the pandemic, we are fatigued and fed up,” the authors write. “This activates our fast-thinking brains, and we’re likely to make decisions based on heuristics rather than by working through issues slowly, thoughtfully and deliberately.”
When we’re fatigued, they add, we are most likely to rely to what’s simple and familiar. But that can be dangerous.
Most obviously, that’s because we’re in uncharted waters now. “Familiar investments that worked well in the past will not work in the same way in the future,” they observe.
Indeed, the fact that stocks SPX, +3.15% are up sharply since the late March bottom is, to some analysts, a suggestion that investors are just falling back on well-worn patterns, even if there’s no rational reason to do so.
Read:This unlikely stock is the biggest winner since the February stock market top
Also, even if an investment decision is straightforward in one sense, say because it has a simple and clear investment thesis, or a lower fee than its competitors, that doesn’t mean it’s in the best interest of a particular client’s needs. It may not fit with other components of the portfolio, or meet his goals.
The AllianceBernstein authors offer a list of a questions for any adviser to use in the heat of investing decision-making, which they say slows down thinking, activates “mental tools for rational analysis and protects the decision from being hijacked by heuristics.”
The questions, while framed as being appropriate for advisers to ask themselves about their clients’ portfolios, can just as easily be used by end investors themselves. For example: “Expand the range of consideration with broad framing: ‘What are all of the meaningful alternatives for this capital in this area of the market?’”
Or take a step that forces you to articulate the reasons you’ve made a decision by asking: “What is the rational argument for this approach?”
The research note, and more questions, can be found here.
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