– Meghashyam Sinkar
Have you observed or seen anyone trying to make the call or to type the message while driving the car ? Or drinking and driving ? So, that person believes that he can control the car if anything comes in front of his car suddenly and hence he continues to do this activity with the belief that he is in full control of his future action or outcome . We underestimate risk because we are in possession of all the facts and we feel that we can control the situation when in reality we can’t.
This is called Illusion of control Bias .
Rolf Dobelli , in his book – “The Art of Thinking Clearly” shares the nice instance
Every day, shortly before nine o’clock in the morning, a man with a red hat stands at a busy traffic light and begins to wave his cap frantically. After five minutes he disappears.
One day, a policeman comes up to him and asks: “Sir! May I ask what you are doing?”
“I’m keeping the giraffes away,” replies the man.
The puzzled policeman looks around and tells him, “But there aren’t any giraffes here.”
“Well, I must be doing a good job, then.” says the man proudly.
You may conclude that the man with the red hat wasn’t in the good of his mental health. However , The man’s belief, that absence of evidence (giraffes) is a proof of his prowess in controlling giraffe traffic, is the result of a behavioural bias called Illusion of Control.
The illusion of control bias describes the tendency of humans to believe that they can control or at least influence outcomes when, in fact, they cannot.
Almost 50 years ago, a group of 3 behavioural scientists conducted an experiment. They asked people to place bets on calling the right number from a roll of dice. The dice was rolled by the persons placing the bets. For a few turns, the dice would be rolled, the outcome hidden, and the participant would be asked to place his bet on the outcome. For some other turns, participants would be asked to first place their bets, and then roll the dice. Bets could be of varied amounts each time. After gathering findings from a number of participants, for a number of attempts, the researchers found a clear pattern emerging. Bet sizes tended to be much lower when placed after the dice was rolled, and much larger when placed before the dice was rolled. Participants obviously believed in their own ability to somehow influence the outcome – which is why they were willing to place bigger bets before the dice was rolled, but much smaller bets after they had rolled the dice. A classic case of illusion of control.
Ten years after this experiment, another experiment was conducted, by a different team. Individuals were sold $1 lottery tickets. Half the participants were sold tickets that were randomly picked and given to them, while the other half were allowed to pick a ticket of their choice, after looking at number sequences and so on. A week later, on the day of the draw, just before the draw, each participant was asked to quote a price at which they were willing to sell their ticket. The average selling price asked by the group that was given randomly selected tickets, was $ 1.96. The corresponding number for the group that was allowed to pick tickets of their own choice, was considerably higher, at $ 8.67. Here again, those who picked their own tickets, had an illusion that they had higher control on the outcome, which is why their asking price for their tickets was much higher.
When you add money decision with this illusion of control bias then it becomes toxic combination . Illusion of control is often observed in stock investing, when investors who do a lot of hard work before picking up stocks believe that their hard analysis and knowledge gives them control over the future of stocks they own. If the stock price corrects then they buy more of it with the concept of averaging it out which is certainly not bad . However, sometimes investors exceed the desired weightage in stock or sector or particular asset class .
Benjamin Graham , in his book “The Intelligent Investor” writes –
“The only thing you can be confident of while forecasting further stock returns is that you will probably turn out to be wrong . The only indisputable truth that the past teaches us is that future will always surprise us – always !”
Individual investors don’t diversify their stock portfolio properly with defined framework. Their concentration keeps increasing if any particular stock is added with some insightful information with detailed analysis and they keep tracking it closing . The fact that they are doing things themselves give them the illusion that they know what’s happening .
Equity Traders who watch the markets quite frequently , follow all the market related information -domestic & global , always try to remain on the top of it and then apply their own analysis to take the stock position believe that they have an edge and can immediately control the situation if needed . But , Mr. Market behaves the way he wants and not what investors want .
In general, researchers have found that the illusion of control is more likely experienced when following conditions are fulfilled:
- One has early success at a task.
- Many choices are available.
- The task one is undertaking is familiar.
- The amount of information available is high.
- One has more control over the decision process.
- One has a personal stake in the outcome of the choice.
How to overcome it ?
- The first step is to be aware of it.
- Be open to the possibility of being wrong or getting wrong .
- Honestly asking whether luck or just randomness played a significant role in initial success.
- Craft your investment plan / financial plan , define the framework and then stick to it.
Keep Learning and Happy Investing !!!