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Cognitive Biases
Cognitive Biases that affect our decision making around money
| Term | Definition | Example |
|---|---|---|
| Behavioral Economics | The subfield of economics that applies psychological insights into human behavior and to explain economic decision making | |
| Cognitive Bias | A subconscious error in thinking that leads to irrational decision making | |
| Confirmation Bias | The tendency to search for information that supports our preconceptions and to ignore or distort contradictory evidence | Javier is a part of an online social media group that encourages investing in trending stocks. He always hears about how these stocks are performing really well and wants to invest in some of the stocks that have been mentioned in recent posts. |
| Endowment Effect | The tendency to put more value on things you already own | Suli takes a car out for a test drive and starts to imagine herself as the new owner of the car. When she comes back to the dealership, she is so excited about the car that she is willing to pay over her budget for the car. |
| FOMO (Fear of Missing Out) | The tendency to feel anxiety/fear that an exciting or interesting event may currently be happening elsewhere, often aroused by posts seen on a social media website | Blake’s friends are all going to a music concert. Blake hasn’t saved up enough money to buy the expensive tickets, but they are afraid they’ll miss out on the experience if they don’t go. They’re tempted to take out a personal loan to buy the tickets |
| Hedonic Adaptation | The tendency to return to a baseline level of happiness regardless of whether you go through a positive or negative experience or event | Malik finds himself scrolling on social media and making small, frequent purchases for things he doesn’t really need. He likes the feeling of ordering something and getting it delivered within a few days, but then finds that he keeps coming back for more. |
| Herd Mentality | The tendency to conform to the behaviors and beliefs of the people around you | Naomi is considering taking a gap year after graduating high school to travel and do a coding bootcamp. However, she’s doubting her decision because most people from her high school plan to go to a 4-year university after graduating. |
| Loss Aversion | The tendency to regard losses as considerably more important than gains of comparable magnitude | Daniel has heard stories of how people invested in the stock market and lost lots of money when the market crashed. As a result, he’s decided he doesn’t want to invest at all since it seems so risky. |
| Overconfidence Bias | The tendency people have to be more confident in their own abilities | Riley is learning about investing in their personal finance class. After learning the basics of stocks and bonds, they feel confident they can pick winning stocks and want to invest half of their savings in stocks they select. |
| Overestimation | When a person believes they are better at something than they actually are | |
| Overnight Test | A strategy used to combat loss aversion by imagining that overnight something you own has been replaced with cash, then determining whether you would prefer to keep the cash or buy the item back | |
| Overplacement | When a person mistakenly believes they are better than others | |
| Overprecision | When a person has an exaggerated certainty that an answer is correct | |
| Social Media Marketing | The use of social media platforms and websites to promote a product or service | |
| Sunk Costs | Costs that have already been incurred and cannot be recovered | |
| Sunk Cost Fallacy | The tendency to make decisions about a current situation based on what resources you have already invested in the situation | Grace and her friends have had a long week and have decided to treat themselves to an expensive meal. Unfortunately the food isn’t very good but Grace feels like she needs to finish her meal because she already paid for it. |
Created by:
betwils222
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