You get a push notification—an IPO stock is skyrocketing. Your gut says, “I want in, too.”
Or maybe one of your holdings begins to slip after a missed earnings estimate. Panic sets in. “Better sell before it drops further.”
These instincts feel like smart decisions in the moment. But time and again, they sabotage investor returns and throw long-term goals off course.
Why Our Brains Work Against Us
Unfortunately, we’re wired to think this way. Our brain relies on mental shortcuts (known as biases) to make quick decisions. In some cases, they’re useful—like when you automatically reach for your favorite brand of coffee instead of analyzing every option on the shelf. Your brain conserves energy for more important decisions.
Your brain is a master at taking shortcuts. It has to be. Every day, you make thousands of decisions, and analyzing each one would be exhausting.
With investing, however, these shortcuts often backfire. The average equity investor underperformed the S&P 500 by 5.5% in 2023—the third-largest gap in the last decade.1 Why such a gap? Because biases trigger emotional, short-sighted decisions that hurt long-term returns.
Good news: You’re not at the mercy of your own instincts. Recognizing these biases is the first step to counteracting them.
In this guide, we’ll explore seven common cognitive traps that can derail investment decisions, along with practical strategies to keep your emotions in check, make more rational decisions, and stay on track toward your financial goals.
7 Common Cognitive Biases That Handicap Investors
Your brain is a master at taking shortcuts. It has to be. Every day, you make thousands of decisions, and analyzing each one would be exhausting.
This internal system doesn’t work as well in an investing context though, where deliberate, purposeful strategies are far more conducive to a long-term investment plan than snap judgments — like making trade decisions based on recent activity alone.
1. Recency Bias
What it is: Recency bias happens when you put too much weight on recent events or trends, assuming they’ll continue indefinitely. Justifying decisions based on recent performance can lead to buying high and selling low.
Sounds like:
- “Stock XYZ’s return was 30% last quarter; why don’t I own this?”
- “Inflation rose higher than expected last month, it’ll go even higher this year.”
Real-World Example: Sandy’s Story
Sandy watched the market soar in 2020 and 2021, as the S&P 500 rose 18.4% and 28.7%, respectively.2 She felt confident stocks would keep climbing, so she chased momentum and increased her stock exposure—only to watch her portfolio shrink when the market corrected in 2022.
Panic set in. Selling felt like the right move, so she liquidated her positions. But by 2024, the market had rebounded, hitting new highs. Since Sandy acted impulsively, she locked in losses instead of riding out the recovery.
Counteraction methods:
- Zoom out. Trends don’t tell the full story—long-term data matters more. Tracking the day-to-day movements of markets is a rollercoaster. Think in terms of years, not days.
- Consider historical patterns. Market corrections are normal, and downturns have traditionally set the stage for future gains.
- Focus on your plan. If you’re investing based on headlines, you’re not making informed decisions, you’re reacting to intentionally emotional media.
2. Confirmation Bias
What it is: Confirmation bias occurs when you seek out information that confirms your pre-existing beliefs while ignoring or dismissing contradictory evidence. Selectively paying attention to information that reinforces your opinions can lead to missed opportunities and/or misguided investments.
Sounds like:
- “I’m hesitant to keep investing, headlines say we’re in a bear market anyway.”
- “My friend insists that auto stocks are climbing, and General Motors is climbing, too.”
Real-World Example: The EV Trap
Sandy strongly believes in the future of electric vehicles (EVs) because analysts say that Americans bought a record number of EVs in the second quarter of 2024. So, Sandy invests heavily in a handful of new auto manufacturers who only produce EVs, concentrating on news articles, analyst reports, and other bullish predictions that expect market disruption from these new entrants.
At the same time, she dismisses or downplays negative news, such as reports of production delays, increased competition, or regulatory challenges facing the companies, and overinvests.3,4,5
Counteraction methods:
- Understand the role of risk: Diversification is inherently safer. Focusing only on particular investments, or segments of the market, you deem safe could lead to limited portfolios that don’t meet your goals.
- Set clear goals: When you define your investment goals and tolerance ranges, you can establish rules or safeguards for your trading and investment decisions to counteract your instinct.
3. Overconfidence Effect
What it is: The overconfidence effect happens when you overestimate your investment knowledge and abilities. An ego-driven mentality can lead to excessive risk-taking, under-diversification, and poor portfolio performance.
Sounds like:
- “I know a winning stock when I see one.”
- “I’m going to 3X my trades; I’m on a roll!”
Real-World Example: The AI Winning Streak
Sandy had a great year investing in artificial intelligence (AI) stocks. Her picks outperformed the market, reinforcing the belief that she had a knack for spotting winners.
“I knew it! I can do this again.”
Confident in her ability, Sandy doubled down—pouring more money into AI without considering broader market trends, valuations, or diversification. But when AI stocks cooled off the following year, Sandy’s portfolio took a hit. What felt like a calculated move was really a brazen bet fueled by past success.
Counteraction methods:
- Consult others: It’s natural to value information that confirms your beliefs, but embracing diverse opinions from reliable sources helps curb overconfidence and misinformation.
- Control your ego: When you abandon systematic decision-making—decisions made based on data—you become more vulnerable to irrational decisions inspired by overconfidence.
- Set expectations: Overinflating one’s own investment knowledge is common: 64% of investors rate their investment knowledge highly, many times inaccurately, according to a report from FINRA.6 Be honest about your abilities; being wrong on occasion is not a sign of weakness.
- Luck plays a role: Understand that sometimes you get lucky, and these outcomes aren’t always a direct result of your knowledge. Graceful humility helps keep biases in check.
4. Loss Aversion
What it is: Loss aversion is one of the most well-documented biases in behavioral finance—and one of the most common. While the name is relatively intuitive, what’s perhaps lesser known is that the human tendency to fear losses more than we value gains grows stronger with age, income, and wealth.7
This fear can push investors into overly conservative strategies, avoiding risk even when it’s necessary for long-term growth. Left unchecked, loss aversion can lead to missed opportunities, stagnating portfolios, and financial decisions rooted in fear rather than logic.
Sounds like:
- “Real estate investments trended down in 2023; let’s sell and invest elsewhere.”
- “I’d rather put my money in bonds; the stock market is just too volatile.”
Real-World Example: The $200,000 “Loss”
Sandy’s portfolio rode the market’s volatility in 2022, climbing from $1 million to $1.5 million—only to slide back down to $1.3 million.
Some would see a $300,000 gain. But Sandy sees a $200,000 loss.
That sting lingers. Unnerved, she hesitates to reinvest, fearing another downturn. But by sitting on the sidelines, she misses the market’s 2023 rebound. The fear of losing can be just as costly as an actual loss.
Counteraction methods:
- Look beyond the horizon: Short-term volatility is normal—what matters is the long-term trajectory. Don’t let fear of temporary dips keep you from long-term gains.
- Allocate: A well-balanced portfolio of conservative and growth-oriented investments can provide stability without sacrificing opportunity.
- Detach emotions from decisions: Fear, excitement, frustration—emotions and investing don’t mix. Make decisions based on data, not discomfort or thrills.
5. Herding Bias
What it is: Herding bias kicks in when you follow the crowd simply because everyone else is doing it. It’s a classic case of FOMO meets investing. When markets surge, it can push investors into hot stocks at their peak. When markets fall, it can trigger panic selling. And all too often, these emotional swings lead to reactionary moves that undermine long-term strategy.
Sounds like:
- “If everyone is buying it, it must be a good investment.”
- “People are starting to sell; should I sell too?”
Real-World Example: Following the Green Energy Crowd
Sandy isn’t immune to social influence—few investors are.8 So when friends start piling into renewable energy stocks, Sandy follows suit.
The headlines are glowing. Everyone seems convinced this sector is the future. Without digging deeper, Sandy rushes in, ignoring key factors like valuation, competition, and how oil prices impact energy markets.
Only later does reality set in: Just because an investment is popular doesn’t mean it’s profitable.
Counteraction methods:
- Look before you leap: Popular opinion does not equal thoughtful and proper research.
- Consider alternative options: Research historical trends and potential outcomes. You’re less likely to succumb to short-term thinking when additional information is available.
- Analyze your motivations: Are you choosing this path based solely on the actions of others? Does it feel safer to follow the crowd in uncertain times? When emotions catalyze your decisions, rather than logic, you become vulnerable to risk.
6. Endowment Effect
What it is: The endowment effect surfaces when you overvalue assets simply because you own them, leading to irrational and emotional decisions—such as clinging to an underperforming stock simply because it feels too valuable to sell.
Sounds like:
- “This was my first investment, and I’ll never sell it.”
- “I know this stock is worth more, I paid triple what it’s trading for now.”
Real-World Example: Emotional Attachment
Sandy bought stock in a pharmaceutical company after resonating with its mission to alleviate cancer-related symptoms. Over the ensuing five years, many biotech stocks generate sizable returns, yet this particular stock lags behind. Despite some company-specific concerns, Sandy refuses to sell the stock.
Studies repeatedly show that people value something they already own more than a similar item they do not own.9 Maybe it’s a byproduct of loss aversion, or maybe it’s Sandy’s emotions clouding her logic. Either way, Sandy is attached. And her portfolio is weighed down as a result.
Counteraction methods:
- Challenge the status quo: Don’t overlook the opportunity costs just so you can keep things as they are. Ask yourself: If I didn’t already own this, would I still buy it today?
- Commit to an exit strategy: Set clear, data-driven rules for when to sell, so your decisions aren’t dictated by attachment or wishful thinking.
- Think like an investor, not an owner: A stock’s value isn’t based on what you paid for it—it’s based on what the market says it’s worth. Make decisions accordingly.
7. Cognitive Dissonance
What it is: Cognitive dissonance materializes when your investments and your beliefs don’t align, but instead of adjusting your portfolio, you adjust your thinking. This could involve holding positions you’d otherwise sell, telling yourself the market is wrong—or doubling down to prove you were right all along.
Sounds like:
- “I still believe in this company, no matter what earnings announcements say.”
- “If I sell now, I’m admitting I was wrong.”
Real-World Example: Stubbornness Over Strategy
Since she began investing, Sandy has believed that small-cap stocks deliver the best long-term returns. She’s built a portfolio around this belief, avoiding large-cap companies no matter the market or economic conditions.
Then, a colleague points out that large-cap stocks have outperformed small caps for the last five years. Sandy’s strategy isn’t delivering the returns she expected. The facts are clear, but Sandy doesn’t reassess her approach; she stays put:
“Sure, large caps are doing well now, but small companies have more room to grow. This is just a temporary cycle.”
Rather than confronting the possibility that her strategy might need adjusting, Sandy dismisses conflicting evidence, choosing comfort over course correction.
Counteraction methods:
- Grow comfortable with the uncomfortable: Sometimes, it’s helpful to challenge your current beliefs—even the best investors fine-tune their portfolios as needs change.
- Stay open to new information: Ignoring facts to preserve opinions can lead to decisions that don’t align with your long-term success. Don’t let stubbornness dictate your strategy.
- Let data guide you: When in doubt, lean on facts, not feelings. Market trends, performance data, and historical patterns are more reliable than gut instinct.
Recognizing and Overcoming Bias
Perspective helps mitigate bias-driven mistakes. When you know what’s at risk, you can actively take steps to avoid them.
- Practice self-awareness: Keep biases in check by regularly reflecting on your beliefs, assumptions, and confidence levels. Being mindful of when biases cloud your decision-making can help you pause and make more objective choices.
- Diversify: A diversified portfolio helps ensure you don’t rely on a single investment to achieve long-term goals. Not only does diversification reduce your risk, it also minimizes the influence of common biases like overconfidence and the endowment effect.
- Make systematic investments: Using a structured, data-driven approach helps curb biases that could threaten to derail your investment strategy. Consider working with a trusted advisor to leverage quantitative data and qualitative analysis.
Lean on an Objective Partner
There’s a paradoxical connection between emotion and money. Americans’ top financial goal is security, yet humans have an instinctive need for instant gratification—an instinct that doesn’t serve investors well.10,11
Money is emotional. That’s inevitable. An experienced, unbiased advisor can act as your accountability partner, providing an objective perspective on your investment decisions and setting realistic expectations over the short- and long-term.
Let us be your most informed sounding board.
Schedule a free consultation today to discuss your biggest financial concerns and how we can help you build a tailored plan focused on your long-term goals.
About Simon Quick Advisors
At Simon Quick Advisors, we understand the unwieldy challenges that wealth can create—because our founders faced them too.
In 2004, Leslie Quick was frustrated with financial firms that prioritized sales over service, so he established a multi-family office to provide independent, fiduciary management for his family and others. Similarly, J. Peter Simon, his brother William E. Simon Jr., and their father, former Secretary of the Treasury William E. Simon, opened a family office to protect and grow their family’s legacy.
In 2017, these two firms united to form Simon Quick Advisors, combining their shared values and deep expertise to better serve clients. Today, we continue their mission to deliver wealth management that’s built on trust, not transactions.
Sources:
1. DALBAR, “30th Annual QAIB Report Investor Behavior Continues to Hinder Returns”
2. S&P 500 data
3. Kelly Blue Book, “EV Sales Set Record In Second Quarter”
4. Goldman Sachs, “Why are EV sales slowing?”
5. International Energy Agency, “Trends in the electric vehicle industry”
6. University of Miami, Miami Herbert Business School, “Confirmation Bias, Overconfidence, and Investment Performance: Evidence from Stock Message Board”
7. Financial Industry Regulatory Authority, “Investors in the United States: The Changing Landscape”
8. Gächter, Johnson, & Herrmann, “Individual-level loss aversion in riskless and risky choices”
9. National Institutes of Health National Library of Medicine, “Herding, social influence and economic decision-making: socio-psychological and neuroscientific analyses”
10. National Institutes of Health National Library of Medicine, “The Endowment Effect and Beliefs About the Market”
11. Nudge Global, “Financial security is the new American dream”
12. National Institutes of Health National Library of Medicine, “Impulsive people have a compulsion for immediate gratification—certain or uncertain”
Disclaimer This information is for general and educational purposes only. You should not assume that any discussion or information contained herein serves as the receipt of, or as a substitute for, personalized investment advice from Simon Quick Advisors & Co., LLC (“Simon Quick”) nor should this be construed as an offer to sell or the solicitation of an offer to purchase an interest in a security or separate accounts of any type. Asset Allocation and diversifying asset classes may be used in an effort to manage risk and enhance returns.It does not, however, guarantee a profit or protect against loss. Investing in Liquid and Illiquid Alternative Investments may not be suitable for all investors and involves a high degree of risk. Many Alternative Investments are highly illiquid, meaning that you may not be able to sell your investment when you wish. Risk of Alternative Investments can vary based on the underlying strategies used. Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/ or investment strategies recommended or undertaken by Simon Quick), or any non-investment related content, made reference to directly or indirectly in this newsletter will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. Simon Quick is neither a law firm nor a certified public accounting firm and no portion of the newsletter content should be construed as legal or accounting advice. If you are a Simon Quick client, please remember to contact Simon Quick, in writing, if there are any changes in your personal/financial situation or investment objectives for the purpose of reviewing/evaluating/revising our previous recommendations and/or services. Simon Quick Advisors, LLC (Simon Quick) is an SEC registered investment adviser with a principal place of business in Morristown, NJ. Simon Quick may only transact business in states in which it is registered, or qualifies for an exemption or exclusion from registration requirements. A copy of our written disclosure brochure discussing our advisory services and fees is available upon request. References to Simon Quick Advisors as being “registered”does not imply a certain level of education or expertise. This newsletter and the accompanying discussion include forward-looking statements. All statements that are not historical facts are forward-looking statements, including any statements that relate to future market conditions, results, operations, strategies or other future conditions or developments and any statements regarding objectives, opportunities, positioning or prospects. Forward-looking statements are necessarily based upon speculation, expectations, estimates and assumptions that are inherently unreliable and subject to significant business, economic and competitive uncertainties and contingencies. Forward-looking statements are not a promise or guaranty about future events. Economic, index, and performance information herein has been obtained from various third party sources. While we believe the source to be accurate and reliable, Simon Quick has not independently verified the accuracy of information. In addition, Simon Quick makes no representations or warranties with respect to the accuracy, reliability, or utility of information obtained from third parties. Historical performance results for investment indices and/or categories have been provided for general comparison purposes only, and generally do not reflect the deduction of transaction and/or custodial charges, the deduction of an investment management fee, nor the impact of taxes, the incurrence of which would have the effect of decreasing historical performance results. It should not be assumed that your account holdings correspond directly to any comparative indices or benchmark index, as comparative indices or benchmark index may be more or less volatile than your account holdings. You cannot invest directly in an index. Indices included in this report are for purposes of comparing your returns to the returns on a broad-based index of securities most comparable to the types of securities held in your account(s). Although your account(s) invest in securities that are generally similar in type to the related indices, the particular issuers, industry segments, geographic regions, and weighting of investments in your account do not necessarily track the index. The indices assume reinvestment of dividends and do not reflect deduction of any fees or expenses. Please note: Indices are frequently updated and the returns on any given day may differ from those presented in this document. Index data and other information contained herein is supplied from various sources and is believed to be accurate but Simon Quick has not independently verified the accuracy of this information.
