In a previous article we explained three ways our mind ends up betraying us and keeps us from moving forward in life. Although to some people it may seem rather philosophical, the truth is that each of the points, in the previous article and in this one, applies to every area: business, investing, finance, your partner, your family and so on. Our mind and psychology are the same for everything.
So the better trained and the less deluded it is, the better. Remember that we start from one premise: we are not as smart as we think. We are very often manipulated. In fact, many companies’ success is built on manipulating their users. Think about it.
4. We get lost in stereotypes without realizing it, and more often than we think
Most of the time, our mind thinks by following stereotypes rather than real facts. It is undoubtedly a flaw of the mind that we don’t give much importance to, although several studies have shown that highly successful people were not so rooted in stereotypes.
Here is an example to illustrate this error. Once again, Daniel Kahneman and Amos Tversky tested how our mind plays tricks on us, this time by creating and describing an imaginary character:
Linda is 30 years old, single, intelligent and brilliant. She studied philosophy, and since her university days she has been concerned with issues of discrimination and social justice, taking an active part in anti-nuclear demonstrations.
The researchers asked people to read this description and then answer this question:
Which alternative is more likely in Linda’s case?
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Linda is a bank teller.
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Linda is a bank teller and is active in the feminist movement.
This simple example showed how 85% of people failed to reason and were unconsciously deceived by their own minds, choosing the second option.
Being against nuclear energy doesn’t make you more likely to belong to a feminist movement.
And on the other hand, if we’re talking about probability… if we choose option 2, we are also accepting option 1, so option 1 is the most likely one, with a 100% probability of being right.
It may seem silly, but this flaw in our minds is what sometimes leads us to think: “A woman in a miniskirt and boots is a prostitute” or “a man with grey hair can’t be trusted”.
In economics and investing, too, we accept certain facts that are based not on reasoning but on stereotypes or on shaky-looking probabilities.
5. The gambler’s fallacy
We are terrible at predicting probabilities, though, to be fair, hardly anyone ever explained to us how statistics and probability work.
Imagine you are playing heads or tails with someone. If we toss a coin, the probability of heads or tails is 50%.
Now suppose we have tossed the coin seven times and it has come up tails all seven times. The next time we toss it, the probability of heads is higher, right?
Wrong. The truth is that the next time we toss the coin the odds are still 50/50, even if it has come up tails 20 times in a row. The probabilities of individual tosses don’t change.
Now, if we are going to toss a coin 100 times, there is a high probability that we will get roughly 50 heads and 50 tails. That is what statistics based on probability tell us.
This belief applies to investing, because we tend to make the mistake of letting past events guide our attempts to predict the future. We often find it hard to accept a bad result and keep going, thinking that, by the law of probability, success will come sooner rather than later, when the truth is that if we keep doing the same thing, every time we do it the most likely outcome is failure.
6. Sometimes you think you are reasoning, but you’re not
Some time ago, Dan Ariely gave a TED talk on how idiotically irrational we can be when making decisions. There are hundreds of studies and examples one could cite, but we’ll stick with one of Ariely’s experiments.
Dan devised an experiment with The Economist to study its customers’ behavior and how they could be manipulated with a good marketing strategy.
People who wanted to subscribe to the magazine had three options:
- Subscribe to the web edition for $59.
- Subscribe to the print magazine for $125.
- Subscribe to the print magazine plus the web edition for $125.
It is clear which of these three options we could consider pointless. When Dan gave these options to 100 people, 84% chose the $125 combo, that is, option 3 (print magazine plus web edition), while 16% chose the cheapest version (the web edition for $59). Obviously, no one chose option 2.
Next, Dan removed the second option (the pointless one), the print magazine for the same price as the combo.
With only these two options left, 70% of people now chose option 1 (web only for $59), while 30% chose the combo.
This shows that we don’t reason out the value of a product; instead, we unconsciously compare it with other products. In other words, we don’t choose what we want and need.
This is called the anchoring effect: we tend to focus on a particular value by comparing it with other options instead of analyzing the value of each option on its own. Make this mistake in the stock market, and you’ll increase your chances of getting knocked out.
On the other hand, remember this when you are planning a sales strategy for your business, because it really depends on how you present your products and what you compare them with.
“Customers don’t choose, but you have to give them the false feeling that they are choosing. I know what a customer is going to buy, even though they probably don’t know it themselves.” I heard this line some time ago from an expert in the world of marketing.
Further reading
Featured image: Yael Zur, for Tel Aviv University Alumni Organization, CC BY-SA 4.0, via Wikimedia Commons.
