How the first data point we see impacts our decisions
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What is Anchoring Bias?
Anchoring bias occurs when people rely too much on pre-existing information or the first information they find when making decisions. For example, if you first see a T-shirt that costs $1,200 – then see a second one that costs $100 – you’re prone to see the second shirt as cheap. Whereas, if you’d merely seen the second shirt, priced at $100, you’d probably not view it as cheap. The anchor – the first price that you saw – unduly influenced your opinion. Anchoring bias is an important concept in behavioral finance.
Anchoring Bias Example in Finance
If I were to ask you where you think Apple’s stock will be in three months, how would you approach it? Many people would first say, “Okay, where’s the stock today?” Then, based on where the stock is today, they will make an assumption about where it’s going to be in three months. That’s a form of anchoring bias. We’re starting with a price today, and we’re building our sense of value based on that anchor.
Learn more in CFI’s Behavioral Finance Course.
Anchoring in Public Markets
Anchoring bias is dangerous yet prolific in the markets. Anchoring, or rather the degree of anchoring, is going to be heavily determined by how salient the anchor is. The more relevant the anchor seems, the more people tend to cling to it. Also, the more difficult it is to value something, the more we tend to rely on anchors.
So when we think about currency values, which are intrinsically hard to value, anchors often get involved. The problem with anchors is that they don’t necessarily reflect intrinsic value. We can develop the tendency to focus on the anchor rather than the intrinsic value.
Avoiding Anchoring Bias
So, how do you guard against an anchoring bias? There’s no substitute for rigorous critical thinking. When you approach evaluation, instead of looking at where a stock is now, why not build up a first principles evaluation using DCF analysis? When analysts find their evaluation is far out from the actual stock price, they often try to change their evaluation to match the market. Why? Because they’re being influenced by the anchor instead of trusting their own due diligence.
More reading: Not All Anchors Are Created Equal.
Additional Resources
Thank you for reading CFI’s guide on Anchoring Bias. To learn more, check out CFI’s Behavioral Finance Course. Additional relevant resources include:
FAQs
What is Anchoring Bias? Anchoring bias occurs when people rely too much on pre-existing information or the first information they find when making decisions. For example, if you first see a T-shirt that costs $1,200 – then see a second one that costs $100 – you're prone to see the second shirt as cheap.
What are signs of anchoring bias? ›
Here are some potential effects of anchoring bias:
- Poor decision-making. Anchor bias can lead to poor decision-making. ...
- Skewed expectations. Another potential effect of anchor bias is its ability to skew expectations. ...
- Dismissal of new information. ...
- Use multiple sources.
The anchoring effect is a cognitive bias that describes the common human tendency to rely too heavily on the first piece of information offered (the “anchor”) when making decisions. During decision making, anchoring occurs when individuals use an initial piece of information to make subsequent judgments.
What is anchoring bias in psychology today? ›
Anchoring bias happens when we make judgments or decisions based on the first information we find. This bias can manifest in relationships when we form initial impressions of someone based on limited data or a single encounter.
Why is anchoring bias bad? ›
Some of those poor outcomes are the result of “anchoring bias,” which can undermine a consumer's rational thinking. This cognitive bias causes the brain to overly rely on initial impressions or numbers to shape subsequent thoughts and judgments. In other words, that early information “anchors” future choices.
What is an example of representative bias? ›
Representative bias often occurs based on preconceived notions of personal characteristics and attributes related to peoples' appearances, attire, or personal habits. For instance, we may assume that someone who wears glasses and reads books is more likely to be an academic than a blue-collar worker.
How do you get rid of anchoring bias? ›
- 1 Identify the anchor. The first step to prevent anchoring bias is to recognize when you are exposed to an anchor that might influence your judgment. ...
- 2 Seek alternative perspectives. ...
- 3 Adjust your thinking. ...
- 4 Test your solutions. ...
- 5 Reflect on your process. ...
- 6 Practice regularly. ...
- 7 Here's what else to consider.
For example, someone using yes/no questions to find a number they suspect to be the number 3 might ask, "Is it an odd number?" People prefer this type of question, called a "positive test", even when a negative test such as "Is it an even number?" would yield exactly the same information.
What is the difference between availability bias and anchoring bias? ›
In other words, although both anchoring and availability bias influence our perception, anchoring is related to the order in which we receive the information, while availability is related to ease of recall.
Who came up with anchoring bias? ›
The rise and development of anchor effect in psychology was first discovered by Tversky and Kahneman (1974) in the “The Wheel of luck” experiment, which reached the conclusion of decision makers due to the presence of anchor information.
Anchoring bias is closely related to confirmation bias and comes into play when interpreting evidence. It refers to physicians' practices of prioritizing information and data that support their initial impressions, even when first impressions are wrong.
What is the difference between anchoring and recency bias? ›
Wikipedia describes recency bias as “a cognitive bias that favors recent events over historical ones,” and defines anchoring as “a cognitive bias whereby an individuals decisions are influenced by a particular reference point or 'anchor'.”
What is an example of anchor bias? ›
Applied to pricing, we can use the example of offering discounts and sales. Anchoring can have both positive and negative effects depending on the price that the individual is exposed to first. If a customer first sees a product at its original, non-discounted price, this number will become an anchor.
What is another word for anchoring bias? ›
Anchoring bias (also known as anchoring heuristic or anchoring effect) is a type of cognitive bias that causes people to favor information they received early in the decision-making process.
How to spot anchoring bias? ›
Here are a few ways to detect when you're anchoring:
- You focus on one piece of information. Most decisions aren't black and white. ...
- You make decisions very quickly. If you make decisions really quickly, you might be affected by anchoring bias. ...
- You disregard conflicting information.
For example, someone using yes/no questions to find a number they suspect to be the number 3 might ask, "Is it an odd number?" People prefer this type of question, called a "positive test", even when a negative test such as "Is it an even number?" would yield exactly the same information.
What is an example of anchoring bias in hiring? ›
For example, stating “They were referred by someone I trust, so I'm inclined to hire them even though they're not the most qualified candidate” exhibits anchoring bias because the manager is using a reference point (the person who made the referral) to anchor their decision-making, rather than focusing on the ...
What is an example of an anchor in life? ›
An internal anchor is something that is part of you, your body-mind, a mental space or physical part of you that you can access always that makes you feel centered, grounded, whole, and at home. Examples of internal anchors could be: an affirmation or mantra. a gratitude contemplation of things you are grateful for.
What is an example of anchoring and adjustment? ›
For example, a used car salesman (or any salesman) can offer a very high price to start negotiations that are arguably well above the fair value. Because the high price is an anchor, the final price will tend to be higher than if the car salesman had offered a fair or low price to start.
