Archives of “cognitive bias” tag

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Trade the strong against the weak

  
Analysis, Forex
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NZD

One of the key trading maxims in the FX world is pairing strength against weakness.If you need a refresher on that concept please do check that out here. So, yesterday we had the RBNZ rate meeting which has given us a weak NZD bias. Going into the event a client was asking me what I was going to do before the RBNZ rate meeting. The answer was simple, wait. Waiting to for the central bank to show its hand. The RBNZ has now done that and that is what gives us a bearish bias.

Reasons for the RBNZ’s weakness

The RBNZ has launched a set of bearish policies extending its asset purchases programme and showing openness to negative interest rates. They increased their quantitative easing (LSAP) programme to $100bn and extended its length from 12 to 22 months. Furthermore, the RBNZ expressed a preference for a lower or negative OCR and a ‘Funding for Lending Programme’, while leaving all options on the table.

So, we now have a short to medium term NZD bearish bias, look to pair it with currencies as they show strength. Yesterday’s strong AUD employment data make AUDNZD longs appealing on pull backs.

NZD

8 Key cognitive biases to be aware of…

  
  Education
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  1. Loss Aversion… A preference for avoiding losses over acquiring gains
  2. Sunk Cost Effect… Treating money already spent as more valuable than money that may be spent in the future
  3.  Disposition Effect… A tendency to lock in gains and ride losses
  4.  Outcome Bias… A tendency to judge a decision by its outcome rather than the quality of the decision at the time it was made
  5.  Recency Bias… A tendency to weigh recent data or experience more than earlier data or experience
  6.  Anchoring… A tendency to rely too heavily or anchor on readily available information
  7.  Bandwagon effect… A tendency to believe things because other people believe them
  8.  Belief in Law of Small numbers… The tendency to draw unjustified conclusions from too little information

10 Behavioral Economics/Psychology Books for Investors

  
Analysis, Education
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As a species, we are notoriously bad at understanding our own thinking and emotions. We are even worse at predicting our own behavior. Understanding your own mind and those of your fellow investors is crucial to successful investing.
These books will go a long way to helping you understand your hardwired weaknesses and blind spots.
 
1. How We Know What Isn’t So by Thomas Gilovich
Thomas Gilovich: How We Know What Isn't So
Published in 1991, this was the very first behavioral finance book I ever read — it is also one of the most influential investing books you will ever read. So many of our own foibles are detailed here that it is almost embarrassing. Everything from unsuspected biases to how we engage in critical reasoning comes under scrutiny. What it reveals isn’t pretty. Despite the genius that is human achievement, it turns out that we are all very poor at comprehending complex data and analyzing risk.
This book will help you understand how your brain processes randomness; overlooks evidence that is inapposite to prior beliefs; selectively perceives and reinterprets data; and engages in selective recall. It’s how we all create an artificial story line to help make sense of otherwise incomprehensible data.
Once you finish this book, you will never look at investing the same way.
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2.  Thinking, Fast and Slow (Daniel Kahneman)

Daniel Kahneman, a Psychologist, won the 2002 Nobel Prize in Economic Sciences with Amos Tversky for their seminal work in behavioral finance. The two challenged the idea of Homo Economicus and the rational model of judgment and decision making.
Thinking, Fast and Slow  looks at the two systems of Human Cognition: System 1 is fast, intuitive, and emotional; System 2 is slower, more deliberative, and more logical. The book exposes the extraordinary capabilities along with the faults and biases of our wetware. This book will transform the way you think about thinking.
The most recent and comprehensive book from a giant in the field.

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7 Ways Your Brain Is Making You Lose Money

  
  Education
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“Investors are ‘normal,’ not rational,” says Meir Statman, one of the leading thinkers in behavioral finance. Behavioral finance aims to better understand why people make the financial decisions they do. And it’s a booming field of study. Top behavioral finance gurus include Yale’s Robert Shiller and GMO’s James Montier. It’s also a crucial part of the Chartered Financial Analyst (CFA) curriculum, a course of study for financial advisors and Wall Street’s research analysts. We compiled a list of the seven most common behavioral biases. Read through them, and you’ll quickly realize why you make such terrible financial decisions.

Read. However, once you get the idea of behavioral finance, keep in mind that the names associated with this article don’t have a wise strategy. Trend following is wise. Predictions, forecasts and other la la statements about what might happen tomorrow are only useful if you are masochist.

 

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