Applying Behavioral Finance Concepts to March Madness
As March Madness gets ready to kick into full gear, millions of people will complete their brackets in online tournaments and office pools, in hopes of putting together the “perfect bracket”.
Here at SFG, we want to provide you with some tools that may assist you in completing your bracket. An area that we deal with every day in the investment world is the concept of behavioral finance. Every person experiences behavioral bias, which can often cloud our investment decisions and lead us toward irrational choices. It is our job as advisors to combat these skewed perceptions and to help you make sound financial decisions.
With that in mind, we want to apply the same mindset to your brackets. Here are a few behavioral biases, and practical ways you can combat them while filling out your bracket.
Recency Bias: This bias convinces us that new information is always better than old information. In the investment world, this can involve becoming fixated on the most recent quarterly earnings and ignoring the overall stability of a company. In your bracket, this could mean paying too much attention to the results of the Conference Tournament, and not paying attention to the larger sample size.
Helpful Hint: Pay attention to a team’s overall record and not just recent performance
Gambler’s Fallacy: This is the false belief that an event is more likely to occur due to the results of previous random events. In our world, that could be assuming a stock is “ready to pop”, because it is trading below historic levels. In reality, it could also just mean that it’s a bad stock. In your bracket, this could mean assuming that a team is “due”, because it has not made a tournament run recently.
Helpful Hint: Just because Virginia and Houston lost games that they should have won in last year’s tournament, they aren’t necessarily “due” to win this year.
Loss Aversion: In short, this is the idea that we are more fearful of looking stupid than we are compelled to being correct. This can lead to individuals investing in “safe plays” and “blue chip companies”, while forgoing more compelling growth stories. In your bracket, this could mean picking higher seeded teams out of fear of looking unintelligent.
Helpful Hint: Don’t always pick the safe choice. In fact, one-seeds only reach the Final Four 41% of the time.1 That means, statistically, two out of the four one-seeds are likely to not reach the third weekend.
Confirmation Bias: This bias involves only paying attention to information that substantiates an existing belief. For example, a person may only read positive analyst reviews about a particular stock or mutual fund that they are heavily invested in. In your bracket, this can lead to “research” that only serves to confirm the picks you are already planning on making.
Helpful Hint: Find the teams you are most likely to pick and actively seek out any negative information that may impact them (Injuries, Suspensions, etc.)
Familiarity Bias: This suggests that we are more likely to prefer things that we know. An example of this would be an individual who holds an inordinate amount of their employer’s company stock. In your bracket, this could be favoring your alma mater or local team.
Helpful Hint: Use familiarity bias to your advantage. Find the schools with the highest percentage rooting interest among members in your office pool and pick against that team.
Don’t worry if you happen to fall victim to any of these behavioral biases while filling out your bracket. The odds of completing a perfect bracket are 1 in 9.2 quintillion!
If you have any questions about behavioral biases and investing, or any other questions or concerns, please feel free to call at 205-967-9595 or email us at JVanFleteren@straussfinancial.com or hstrauss@straussfinancial.com .