The cognitive biases that cost you money
To be a successful property investor it is critical to understand common human cognitive or psychological biases that often lead to poor decisions and investment mistakes.
To efficiently process the huge amount of information we come across every day, our brains often take short cuts without us even realising it. These short cuts are deeply ingrained due to complex evolutionary processes to enable our survival in the wild.
Unfortunately, these short cuts make for sub-optimal investment decisions. Below we outline some of the most common cognitive biases that are costing you money on your investment property.
Anchoring bias
Anchoring bias is the tendency to rely too heavily on, or anchor to, a past reference point when making a decision.
Consider that you have purchased a newly built investment property a year ago and it has recently been completed. At the time, the agent who sold you the property advised that you would receive $1000 a week in rent.
From the beginning you have factored this $1000 a week into your budget calculations. However, all the offers you are getting from prospective tenants are $800 a week.
What do you do? The obvious answer is to lease the property for the market price of $800 per week rather than leaving the property empty. However, a huge proportion of people will hang on and try and wait in the slim hope that they achieve $1000 per week. This is known as anchoring bias.
Our role as property managers is to provide you with as much data and objective information to ensure you earn the most income possible.
Hindsight bias
Hindsight bias refers to the tendency of people to look at past events and believe that they were more predictable or likely than they were. Consider watching a sporting event where the underdog ended up winning convincingly, or a horse race where the outsider ends up winning the event. Despite the relatively small likelihood of that happening, after it has in fact happened people assign a higher probability to the event than would otherwise be the case.
This causes issues with purchasing investment properties because if you have recently seen properties go up strongly in value you are likely to assume that this will continue happening in the future, potentially causing you to pay more than you should.
We see this often in turbulent rental markets, particularly after a long-term tenant vacates. It can be quite a shock to find that the rent that was previously being achieved is less than what new tenants are willing to pay.
Confirmation bias
Confirmation bias refers to the tendency to place an increased emphasis on information that confirms the views you already hold. Imagine you have been told before meeting someone that they are not a likeable person. When you do meet them, you are likely to put an increased emphasis on their negative traits (which we all have) that confirm your original opinion.
The same can happen with property. If you naturally believe that property is a good investment, or you happen to own property, it’s likely that when you read good news you subconsciously value it more than negative news.
Do you feel like a genius when property prices rise, but then rationalise away conflicting information when they fall as ‘just being the market’ or ‘property prices always rise in the long term?’ That’s confirmation bias.
Cognitive biases are very hard to untrain, perhaps impossible. However, by being aware of these biases you can correct them when you identify them. Our team of property managers are trained to identify such biases so that they can get you the best result on your investment property.
If you would like to have a different property management experience, we would love to show you just how great property management can be. Please click here and a member of our team will give you a call by close of business today.
