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Awareness of common investment biases

As investors, we all face certain heuristics that can make it difficult to succeed in long-term investing. Perhaps the most common habit investors face is the Disposition Effect. An expression of Prospect Theory, the Disposition Effect is what leads us to run our losing positions too long and cut our winning positions too soon. Research has shown that winners that were sold prematurely outperformed losers that were retained by an average excess return of 3.4% per annum (Odean, 1998).

Another common behavioral bias is Overconfidence or the tendency to overestimate our own abilities. This particular heuristic is one of the greatest pitfalls of professional investors.

Other common biases to be mindful of are;

  • "Illusion of control"- Belief in our ability to control the market;
  • "Self-Serving Attribution Bias"- Attributing good outcomes to skill and bad outcomes to 'Bad Luck';
  • "Endowment Effect"- Placing a higher value on something we own..

These are a small sampling of issues we humans deal with when it comes to investing.  KDM believes understanding emotions play a role in our decision making and being 'mindful' of these internal conflicts make us better decision makers.