Anchoring bias is a straightforward behavioural bias that causes us to focus on a certain initial value and then make decisions with reference to it. Anchoring biases are pervasive. In this post we’ll discuss a number of anchoring effect examples to identify where they’re most prevalent and thus, hopefully, help reduce some of our silliness.

We’ll be covering the following:

1. What’s your best guess?
2. Anchoring effect examples
3. Anchors in real estate
4. The anchored investor
5. When there’s uncertainty, it’s worse
6. Framing and anchors
7. Now that we know, what next?

Consider the nautical phrase ‘anchors aweigh’. This quite simply refers to the point at which an anchor starts to take weight as it’s pulled in, which in turn means the anchors are clear of the sea bottom and, therefore, the ship is officially under way. That’s sort of what we’re aiming for. 

When was Albert Einstein born? If you don’t know the answer off the top of your head and you have no access to the internet, how would you answer this question? Perhaps you know that he was somehow associated with the atomic bomb development for the US (misquoted involvement aside, we’re just interested in the timelines). So that must have been before the US dropped the bomb on Hiroshima. And you know the Pearl Harbour and Hiroshima bombings were somewhere in the early 1940’s. When you think of Einstein in all those photos at the height of his career, you don’t see a young guy, but an older scientist, perhaps someone in their 60s? So, working back 60 years before 1940, our best estimate might be 1880.

The correct answer is 1879. Pretty close, huh? How did we work it out? We found an anchor to help us – the 1940s – and worked from there to arrive at an educated guess.

Whenever we need to guess something, we do this. It would be foolish to just pick a number off the top of our heads. We start with something we know and then use that to guide us into the unknown. Whether it’s guessing the number of people in Hong Kong, or the height of the Eiffel Tower – we use anchors. There’s no other way for us to do it. The problem though, is that we also use anchors when we don’t need to.

For an investor, a typical anchor is the original purchase price. And as we already know, we are unlikely to sell below that price (see loss aversion). But what about dividends? Basing your investment decisions on share prices at least directly contributes to the movement in those prices (a self-fulfilling prophesy). But how many of us invest based on dividends and are anchored to that, when it’s something we cannot even directly affect? 

A final consideration is that of framing. Presenting the same situation in a different way using different frames, can anchor people in a certain way. This is where loss aversion creeps in again. Present a situation in terms of possible losses and people will likely take on risk to avoid those losses (risk-seeking). However, frame that same situation in terms of possible gains and we become risk-averse in trying to protect those gains. Anchors are ever-present in behavioural finance.

Whether you’re speaking to a real-estate agent, car salesman, or walking down the aisle at your local supermarket, beware of being anchored to a reference point. “Buy 4 for the price of 3!” That’s anchoring right there.

When you speak to your financial advisor, their recommendations are an anchor. And how does a company’s earnings announcement affect your assessment of their stock price? What’s important is to remember that you’re being anchored. Don’t allow your cognitive biases to influence your decision making, especially in negotiations.

Be careful of setting anchors with your investment returns. It’s fine to have a return goal, inflation + x%, but we must remember that we invest for the long term. If that investment return goal starts being a benchmark that you anchor all short term returns against you run into the risk of responding impulsively.

Anchoring is prevalent in everyday decision-making. What we should be mindful of is the need to differentiate between price and value. Forget about the ‘deal’ or what’s being punted. Make decisions based on the intrinsic value of the transaction. As we’ve seen with the Einstein example, some real knowledge can eliminate the uncertainty and ultimately the problem.

• Heuristics and biases in decision making – This was the first post in the series which shares some behavioural economics research. Specifically, the heuristics and biases that influence our relationship with money. It uses System 1 and System 2 thinking examples from Daniel Kahneman’s New York Times best selling book, Thinking Fast and Slow, to help us be more conscious of the workings of our brain. 

• Mirror, mirror, on the wall, stop telling me I’m wonderful – This post focuses on the impact of overconfidence bias in decision making. It introduces the illusion of knowledge bias and the illusion of control bias to illustrate the difference between confidence and carelessness. It also discusses the better than average effect, the self-serving bias and fundamental attribution error. You’ll learn how to confront some unpalatable truths and get out of any false sense of comfort (if you’re up for the challenge?).

• Why you can’t argue with a vegan – Ballsy title, we know. But if you read the post you’ll (hopefully) understand why. We’ll be discussing confirmation bias. It’s one of those psychological biases that you can see everywhere. We’ll also touch on cognitive dissonance theory. We all struggle with these biases. They’re both humorous and serious. But because of that, it’s useful to know how to avoid confirmation bias when you need to.

• Size does matter… when it comes to framing – This post uses framing effect examples to show how framing bias influences the way we interpret information and make decisions. We discuss glossing, the compromise effect, and how the size of the frame can influence the volatility of your investment portfolio.

• Loss aversion vs risk aversion – Once you understand framing, you’re ready for this post. It introduces an incredibly powerful bias known as loss aversion. It also touches on prospect theory, the disposition effect and impression management.

• The danger of the default – Default options nudge us to make better decisions. The option of opting out also respects freedom of choice. This post unpacks this notion of libertarian paternalism and the perils of status quo bias.

• Regret, it’s not a nice feeling – Regret influences the decisions we make and pushes us to conform to social norms. Examples of regret avoidance show us how this makes complete sense yet no sense at all.

• When the past influences the future – The Concorde effect is a famous example of sunk cost investment. Too often we invest time, money and energy into something we should’ve just abandoned. This post looks at some examples of how sunk cost fallacy affects our human decision processes.

• What’s mine is more valuable – In this post, you’ll learn why you place extra value on things you own. The endowment effect has implications for our investment portfolio, bonuses and consumer behaviour.

• How to improve self-control – Self-control is an essential life skill. It’s what separates humans from the rest of the animal kingdom. Learn how to improve self-control to achieve your long-term goals.

• Procrastination is the enemy of success – We know procrastination is the enemy of success. But while it looks like laziness, it’s often just mental exhaustion at play. Learn how to overcome procrastination.

• The problem with wanting it now – When you delay instant gratification, you will experience long-term satisfaction. It’s the hyperbolic vs exponential discounting debate. Don’t let present bias win!

• The power of first impressions – The order of information influences your decisions. First impressions matter! It’s all got to do with primacy and recency effects.

• We prefer wrong information to no information – Availability bias and survivorship bias influence our decision-making. We make decisions based on the information available to us.

• Learn to deal with uncertainty – Risk and uncertainty will always surround us. Gambler’s Fallacy, the hot-hand effect, the law of small numbers & ambiguity aversion are just some of the biases that arise because of it.

• Stop stereotyping – Representativeness heuristic refers to the fact that we stereotype. It’s a mental shortcut. But beware of making unfounded comparisons.

• Mental Accounting – Money is money! Or is it? Mental accounting says we place different values on different money which leads to irrational decision making.

• Money Illusion– Money illusion is a sneaky bias. It causes us to focus on the amount of money in our hands, rather than it’s purchasing power.

• Home bias – We invest close to home and in what we know. But this lack of diversification results in missed opportunities. Say hello to ‘home bias’.

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