The Joys of Compounding by Gautam Baid
Checklist For The Standard Causes Of Human Misjudgment
Charlie Munger prepared a psychological checklist for the standard causes of human misjudgment. They are:
Bias from mere association
This bias automatically connects a stimulus with pain or pleasure. It includes liking or disliking something associated with something good or bad and seeing situations as identical because they seem similar.
Underestimating the power of rewards and punishment
People repeat actions that result in rewards and avoid actions for which they are punished. If people don’t have to pay for a benefit, they tend to overuse it. After success, we become overly optimistic risk-takers. After a failure, we become overly pessimistic and risk-averse.
This happens even in cases in which success or failure was merely a result of chance. We do not improve the man we hang; we improve others by him.
Tie incentives to performance. This ensure that people share both the upsides and downsides. Make them understand the link between their performance, their reward, and what you want to accomplish. Reward individual performance, not effort or length of time in the organization.
Underestimating bias from one’s self-interest and incentives
Persuade others by asking them questions that highlight the consequences of their actions—appeal to interest, not to reason.
This bias encourages an overly positive view of our abilities or being overly optimistic. Successes always draw far more attention in the media than failures. The more we think we know about a subject, the less willing we are to use other ideas. We solve a problem in a way that agrees with our method of expertise. Always ask, “How might I be wrong?”
Self-deception and denial
When we practice denial, we engage in a distortion of reality to reduce pain. This includes wishful thinking.
Bias from consistency and commitment tendency
This bias causes us to remain consistent with prior commitments and ideas, even in the face of disconfirming evidence. This includes confirmation bias—that is, looking for evidence that confirms our beliefs and ignoring or distorting disconfirming evidence to reduce the stress from cognitive dissonance. We tend to double down on our failed efforts because of the sunk cost fallacy. The more time or money we spend on something, the less likely we are to abandon it. When we have invested, we seek evidence to confirm that we made the right decision and ignore information that shows we made the wrong one.
The more publicity a decision receives, the less likely it is that we will change it. Rigid convictions are more dangerous enemies of truth than lies. It is better to be correct than to be consistent.
You are more likely to be suitable if you try to prove yourself wrong. Based on what you learn along the way, you should hold and explore conflicting possibilities in your mind while steadily advancing toward what is likely to be the truth.
If you find yourself in a hole, stop digging.
To admit you are wrong means you are wiser today than yesterday. The greatest enemy of the truth is the innate desire to win every argument. Learning is what happens when you end up justifiably agreeing with people who disagree with you. Welcome criticism when you see it is sincere, founded on knowledge and given in a spirit of helpfulness. Growth requires a steadfast commitment to pivot and adapt. Be open-minded and always triangulate your thesis with people who see things differently from you. By engaging them in thoughtful disagreement, you will better understand their reasoning and allow them to stress test your thoughts. In this way, you will raise your probability of being right. Remember, you are looking for the correct answer, not merely the best one you can come up with on your own. Just try to be right—it doesn’t matter if the correct answer comes from someone else.
Bias from deprival syndrome
This strong reaction comes when something we like and have is taken away or lost. It includes desiring and valuing more of what we can’t have. People respond to immediate threats. Anything that happens gradually tends to get ignored. If compliance practitioners want a person to take a risk, they try to make him feel as if he is behind.
Status quo bias and do-nothing syndrome
This bias keeps things the way they are. It minimizes effort and supports a preference for default options.
Our unconscious mind rules our behavior. Our senses send our brains roughly 11 million bits of information per second— vastly more than our conscious processing capacity, which maxes out at an estimated fifty bits per second.
Research studies show that this bias could be because challenging mental activities require more of the body’s essential fuel, glucose. When we avoid hard thinking, we save mental energy. We are programmed to be lazy and naturally inclined to follow the path of least resistance, that is, doing what is easy rather than required.
When we are impatient, we value the present more highly than the future.
Bias from envy and jealousy
People will do many things to feel loved. They will do all things to be envied.
Distortion by contrast comparison
This bias involves judging and perceiving the absolute magnitude of something not by itself but rather based only on its difference from something else when presented closely in time or space or from some earlier adaptation. This includes underestimating the consequences of gradual changes over time (low contrast).
Bias from anchoring
When we anchor, we overweigh certainly information (often arbitrary and meaningless) as a reference point for future decisions. Overinfluence from vivid or recent events. Always back up “stories” with facts and numbers. Many times, the data refute the anecdotes, but people still prefer to believe the latter.
People’s minds usually don’t change with data when the subject matter is emotional or political.
Omission and abstract blindness
When we experience this bias, we see only stimuli we encounter or that grab our attention, and we neglect important missing information . Today, millions of people do not win the lottery. We don’t see the quiet losers. We don’t see those who didn’t predict well. Missing information doesn’t draw our attention. This bias includes inattentional blindness.
Bias from reciprocation tendency
We repay in kind what others have done for or to us. This bias includes favors, concessions, attitudes, and information sharing.
Bias from over influenced by liking tendency
We believe, trust, and agree with people we know and like. This includes bias from excessive desire for social acceptance. It also provides bias from disliking—our tendency to disagree with people we don’t like, even though they may be right.
A reasonable person can make a flawed argument. An evil person can make a good argument. Judge the argument, not the person. Practice intellectual integrity.
Bias from over influenced by social proof
We imitate the behavior of “similar others.” This bias includes crowd folly. When all are accountable, no one is accountable.
Bias from over influenced by authority
We tend to trust and obey perceived authorities or experts.
When we construct explanations that fit an outcome, we may act too quickly to draw sound conclusions, thinking events that have happened were predictable in advance. In hindsight, everything seems obvious. Constantly assess the quality of previous decisions in the context of the time at which they were made.
We often comply with requests merely because we have been explained. If you always tell people why they will consider it more meaningful, and they will be more likely to comply. People are moved more by what they feel than by what they understand.
Believing first and doubting later
Unfortunately, it can be easy to believe what is not true when in a distracted state.
This causes us to remember selectively and wrongly. This bias includes influence by suggestions.
We may be prone to take some action just for the sake of being active.
Mental confusion from the say-something syndrome
We often feel a need to say something when we have nothing to say. But, as the saying goes, “Better to remain silent and be thought a fool than to speak and remove all doubt.”
It is easy to make hasty judgments under the influence of intense emotions. This includes exaggerating the emotional impact of future events.
During the research process, conduct an honest emotional self-check. Write down how you are feeling and the main reason you want to buy the stock in question. Are you buying just because of the large amount of research and effort you have put into the stock? Are you reluctant to accept differing opinions? Resist the urge to buy first and study later. Avoid buying just because others are buying the stock and making a lot of money off of it. Do not fall prey to the fear of missing out. If necessary, take a break and clear your mind.
Every investor needs to build a checklist based on personal experiences, knowledge, and previous mistakes. A checklist created in this manner would be most beneficial.