I am going to make a statement and I want you to ask yourself whether you think it’s true or false: 2014 was one of the most dangerous years to fly on a commercial plane in history. True or false?
It’s false. In fact, statistically last year was one of the safest years to fly ever. That is certainly not what I thought until I looked it up. Even now, it just doesn’t seem right given the number of high-profile disasters that have been covered in the news. At least to me, it seems like these things are happening more often than ever.
You might be asking yourself why I am bringing this up. It’s a sensitive topic to say the least. But when I think about things to share with you each month, I want them to resonate and I think this example is the most salient way that I explain something that affects our judgment and that can be particularly harmful when it comes to our finances. It’s called the availability heuristic.
The availability heuristic falls into a larger category of things called cognitive biases that sometimes make our thought processes less than rational. Chip has talked about them before in a previous blog. Specifically, the availability heuristic makes us misjudge the size or frequency of events based on how easily they come to mind. We tend to remember events more easily when they happen to us personally, are dramatic in nature, or have been talked about a lot lately. We can call up those memories more easily because they were significant to us or because they are fresh on our minds. We mistake “easily remembered” with “happens all the time” or “hard to remember” with “never happens”. In my underestimation of flight safety, my judgment had been influenced by the fact that recent events were intense and frequently reported in the media.
The availability heuristic applies to all types of situations. If you get stuck in an elevator for several hours, you might be more likely to take the stairs for a while after that, even though the relative safety of elevators hasn’t changed at all. If you get food poisoning from eating raw hamburger, you might swear off beef for a while, even though your odds of getting sick from it aren’t any higher afterward than they were before. It can cause you to underestimate risk, too. If you’ve never been pulled over for speeding, you might be more willing to put the gas pedal to the floor. You perceive your risk of getting caught to be low, even though in reality you’ve got just as much chance of being pulled over as you ever have.
There’s no reason to feel bad that we think this way. It’s just how our brains work and this type of thinking has helped humans survive and thrive. The tricky part is that there are times when the availability heuristic works against us, too. Taking the stairs or giving up beef for a while isn’t going to hurt you too much, in fact they might be good for you. But what happens when your investment portfolio is down 20% and all you hear every day is how the stock market is crumbling? As you know, that is precisely the time when your crazy helpful financial advisor is going to tell you to buy more stock. Believe it or not, that is the rational thing to do if you believe that stocks will continue to increase in value over the long term. It just won’t feel very rational at the time; in fact, it will probably feel like we’re asking you to ignore your gut feelings.
It’s at those moments we need to remember that our repulsion to stocks is totally normal given the availability heuristic, but that we can’t let those feelings drive our behavior. I’m not saying it’s easy, but being aware of the pitfalls in our thinking is one of the best ways to overcome them in the future. Another way is to have someone there to help you by providing a different perspective. That’s one of our jobs as your financial partners: sharing the way that we see things so you can incorporate that into your decision making. Now, if we could only have someone around to do that for us all the time, we’d be in really good shape. If nothing else, there would at least be fewer of us getting speeding tickets.