December 4, 2018

Know Brainers: How Do We Form Our Anchors?

how do we form our anchors - carroll financial

“I remember when” is a powerful phrase. When I was in high school, I broke my ankle playing soccer in the fall of 2008. I was fortunate enough to attend a school that has an incredible sports training and rehabilitation program. Every day during my lunch break, I would crutch down to the gym to ice my ankle and do rehab exercises. As many of you know, rehabbing a body part takes time. There is a lot of sitting around and I chose to fill my time by watching the news. Well, the biggest (and only) news you could find in the fall of 2008 was about the Financial Crisis. I remember the panicked headlines, I remember hearing the word “subprime” for the first time, and I remember red numbers staining the screen every day.

Today, many of our conversations with clients inevitably include “I remember when…” We often hear clients say “I remember when interest rates were 18%” or “I remember when I was earning 10% on bonds.” There is nothing wrong with having those remembrances.

The important thing to note is that these remembrances have a huge impact on the way you behave as an investor. Events that happened early in your investing career tend to create an anchoring bias, regardless of whether they were a big shock or not. Anchoring bias is defined as the human tendency to rely too heavily on the first piece of information offered (the “anchor”) when making decisions.

As a young investor, you’re eager to collect information from the market and form beliefs based on that information. It’s human nature. A lot of how we think and feel about certain topics can be traced back to what was going on during the developmental years in our lives.

When you’re born is one of the most impactful factors when determining your experience in the market. It’s also one that you have no control over. For example, someone who began their investing years in 1946 experienced very little volatility. From 1946-1956, the S&P 500 grew an average of 9.41% per year. For novice investors, this steady march upward likely became their mental norm for the market.

Contrast that with someone who started their investing career in 1966 and it’s an entirely different outcome. They unknowingly started at a market top and experienced two bear markets and an environment where money grew by 3%. Then they experienced high inflation in the ’70’s. That stays with someone forever.

If you began investing within the last 10 years, you may have had a blissful ride with little to no turbulence. February and October of this year were probably bizarre experiences for you. Your formative experience is different from those who started before you and it will inevitably be different for the rest of your life. The arbitrary time in which you’re born has a huge impact on the market experience you have.

Another way to think about anchoring bias is this: which college/MLB/NBA/NFL team was winning the most championships when you were 10 years old? Do you often find yourself rooting for them even though there is no apparent relationship or connection to the team? When a friend asks why you like them so much do you find yourself saying, “I don’t know, I just always have.” For me it’s the Tarheels, Spurs, and Panthers. I just like them.

Bottom Line: You can only invest in the market that you have. It’s important to recognize that we all have biases that we hold on to. Becoming aware of our biases can help us make savvier decisions in the long run and become better investors. “I remember when” is a powerful phrase because it is very personal to us. It belongs in a deep corner of our memory box where we feel the need to hold on tight because the memories become more and more distant. However, it’s important to be open minded to changes in our everyday lives, whether that involves the financial markets or our personal narratives.

Let us know: Are there biases that you’re anchoring toward? Are there moments that you remember from your youth that are hard to shake from your memory?

 

From the desk of Courtney Stutts

The S&P 500 Index is a capitalization-weighted index made up of 500 widely held large-cap U.S. stocks in the Industrials, Transportation, Utilities and Financials sectors.

You cannot invest directly in an index. Additional risks are associated with international investing, such as currency fluctuations, political and economic stability and differences in accounting standards all of which are magnified in emerging markets.

 

Financial Literacy, Investing & Saving, Market Volatility

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