Why wrong judgements are made while making an investment

Judgements of an Investor can be studied by Behavioral Finance ,Some heuristic-driven biases and cognitive errors that impair judgment are ;

1. Representative  Belief

It refers to the tendency to form judgment based on stereotypes . we make judgments based on the past events for example, if a student not perform well in previous year , it would be mandatory that he would not perform good in present or coming years , Representativeness is beneficial to investors  but if used overconfidence with it may result bad , some good rule of thumb followed by investors are

Investors may become optimistic while reading good results of a company in past and increase pessimism for a company for its bad results .

Investors may belief that a healthy growth in past may be representative of high growth rate in future and they may not realize that growth may randomize in future .
Investors generally that good companies have good stock , while bad companies have bad stock .
Blue-chips are generally high grade stocks and investors may judge highest returns , but growth always fluctuate and probably insecure .

2. Higher  Overconfidence

People Tend to be very overconfident while investing , while they have an illusion of control , they behave as they have influence all over the market and over future outcomes in an uncertain environment , they just overestimate their forecasts , overconfidence stems partly from illusion of knowledge and such an illusion may be fostered in active involvement and positive early outcomes , overconfidence is certainly very seductive when someone has special knowledge , he tries to persuade people and thinks that they have an investment edge , most of the investors who are successful do not outperform the market consistently .

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It is human tendency to belief the familiar things and they become comfortable with it . Humans generally find shortcuts in choosing investments , rather studying they choose to speculate . Indeed, familiarity breeds investment . This is the reason that people tend to invest more in employers company , local companies and domestic companies .

4. Anchoring Effect

When people form an opinion about a company , they are not able to change their , even if the relevant information is wrong .For Example – If an investor form a belief that Company A has higher earning prospect and suddenly there is a mislead while the earnings of the company was very low , if there is a Anchoring Effect which is also known as conservatism ,investors will persist that the company is not worst , insisting themselves to go opposite to particular company just because a bad news.

Investors would shed their initial conservatism at the time when stock price would reduce and move very little.

5. Innumeracy and Money Illusion

John Paulos noted in his book “Innumeracy: Mathematical Illiteracy and it’s consequences ” that some of the blocks to dealing comfortably with numbers and probability , which are due to psychological responses to uncertainty to coincidence. There are also romantic misconceptions with some people due this prospect. There are some misconceptions with some people such as

1. People confuse with figuring out correct probability.
2.People tend to pay more attention to big numbers than small numbers.
3.People confuse with nominal changes and real changes .

6. Other – Collect knowledge , cognizance will lead you to success and risk comes when you don’t know what you are doing.Take help of Finance websites such as https://www.investopedia.com/,https://www.fool.com/

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