We try hard to be rational, and to not make decisions that go against our better judgement. Yet the truth of the matter is that we’re all subject to little biases which impact every behavioral decision we make. These act as a sort of psychological “blind spot” that our brains fill in to give us the illusion of impartial rationality. Our brains are so good at covering up these that we don’t even recognize it. These biases affect everybody, including real estate investors. Nonetheless, once we know about these, we can be better aware and take precautions, which in turn helps us make better decisions. I recently came across an article that shared some of these behavioral biases, and what you can do to counter them. Here are the three that they discussed:
Self-attribution bias & overconfidence: When something good happens, we often attribute it to the actions we’ve taken. Yet when something bad happens, we attribute it to bad luck or external factors that were beyond our control. If real estate investors are doing well when the market is on a positive run, then they’ll credit it to themselves. Yet when it’s on a slump, they’ll blame their bad behavior on the massive failure of their investments. This also causes the investor to discount the role that chance may have played, and put too much emphasis on their actions, which in turn leads to overconfidence. To make sure this doesn’t happen, practice pitching your deals with a “partner” who can provide feedback to see if you’re acting overconfident. You can also try a “what if?” sensitivity analysis, where you view your proposed investment through different lenses.
Loss aversion: The feelings surrounding loss are much more intense than those of gain. Most investors are therefore more inclined to risk-averse behavior when facing gains, and risk-seeking when facing losses. This leads investors to work on their weaknesses instead of playing to their strengths. Let’s say you’re selling a property; ask yourself if you’d buy it again at the price you could sell it for; if your answer is no, then the only rational course of action is to sell it so you can focus on winners.
Belief perspective: We like to think that we’re open-minded to different alternatives, but we actually tend to seek information confirming what we already believed. Investors tend to ignore information that conflicts with their existing beliefs, which means that they won’t pay attention to any potential red flags that could contradict their opinion. To make sure you don’t go down that path, discuss your plan with somebody who has your best interests at heart and isn’t afraid to be honest with you. Present all the information to them (not just the information you’ve been looking at!) and ask them what they think is the best course of action. If somebody you trust sees something you can’t, then that can be a huge help.