Last week’s post looked at confirmation bias – when we focus only on the evidence that supports our predispositions. Another bias, which typically accompanies confirmation bias, is the overconfidence effect. Overconfidence is when confidence in our judgments is consistently higher than the actual accuracy of those judgments. Take for instance, the way most of us assess our abilities as drivers. The Association for Psychological Science discusses this overconfident mindset in When it Comes to Driving, Most People Think their Skills are Above Average. The common misconception among motorists regarding their abilities is, unfortunately, supported by confirmation bias in that one notices bad drivers while ignoring the good ones.
Overconfidence shows up in many areas of our lives. It is apparent in our perceptions of our own traits like intelligence, generosity, and looks; job performance self-evaluations; and investing ability. In all of these areas, we have also demonstrated being much better at evaluating our peers than ourselves, which suggests that receiving critical feedback could help solve much of our overconfidence issue. Much like driving, a Fidelity poll of active traders found that 75% of them expected to outperform the market in the coming year. When picking or timing investments, most people generally believe they have better information than others or are better at evaluating information than others–and then tend to credit themselves when we they are ‘right’ and blame luck when they are ‘wrong.’