Advisors Warned: Do No Harm, Avoid Availability Bias
Among the many biases hindering rational investment decision making, the availability bias often leads investors to choose the options that they’re most familiar with rather than doing the work to find the right ones for themselves, writes Michael Pompian on Morningstar’s website. And financial advisors need to ensure this bias doesn’t compromise them — and their clients, he writes.
Availability bias is a “mental shortcut” that leads people to judge the probability of an outcome based on their familiarity with the outcome, according to Pompian. The bias causes people to believe an outcome is more probable if they can easily recall it, obscuring their view of possibilities that are more difficult to comprehend, he writes.
Advertising, media exposure and suggestions from friends play the biggest role in this bias, according to Pompian. Much like people believe shark-attack deaths are more frequent than deaths by falling airplane parts — which are in fact 30 times more likely, according to Pompian — investors will opt for products they’re most familiar with rather than do their due diligence to find the option best suited for them, he writes.
Investors may opt for mutual funds that are most familiar to them, for example, even though a bit of extra research can unearth the ones that don’t necessarily advertise or aren’t as widely known but offer a better fit, according to Pompian.
The lottery is another example of availability bias. If people really took into account the millions-to-one odds necessary to win a Powerball, they would stay away from the lottery, he writes. Yet because lottery wins make the news and plenty of effort goes in to promote the game, many people opt to buy tickets rather than invest that money and win out in the long term, according to Pompian.
Advisors must realize that availability bias is part of human nature, he writes. They must also stay well clear of the bias when deciding on advice to their clients, according to Pompian.