Beat Cognitive Bias With This Weapon

We have a lot of respect for the human side of economics here.

It’s not just about numbers.

After all, we’re equipped with shriveled lizard brains that make us fearful and shortsighted.

Our cognitive biases are ingrown like broken toenails.

And our self-defeating psychologies beat on us like a rogue third arm with a tire iron.

So there’s a big place for emotion, heart and viscera here – both in taming our own counterproductive tendencies and in profiting from human tendencies playing out around us.

Beat Cognitive Bias With This Weapon
Beat Cognitive Bias With This Weapon

But understanding that we humans are prone to misstep and misery is only half the battle.

We have to beat our cognitive biases when we can.

Which means there’s also an important role for numbers, quantification and callous calculation here. Check that: There’s an essential role, an indispensable, crucial, nuclear role for the numerals. That’s because our emotional side can be heavily influenced by the data to which we’re exposed.

Which means we don’t have to look any farther for a weapon in our battle against our lizard-brained biases than the right kind of good information.

Fighting Words

Why do I bring this all up?

It’s because I suffered a very un-Dude interaction with somebody about “feelings” and stock market returns.

Not their feelings about future returns. Not their feelings about actual returns versus anticipated returns. But simply their feelings about what actual returns actually were.


You don’t need to have feelings about what actual returns actually were.

You don’t need to guess or speculate.

You don’t need to wonder wide-eyed as your mind floats aimlessly into the middle distance and your eyes slowly cross.

You can just look it up. You know, like, online. Or in a book.

Or, as you’ll see after just a couple of downward scrolling motions, right here on Libre. It’s just that easy, and it saves you from lizard-brained lunacy.

Shin Kicks

“Yeah, FL, we got it,” you say. “Find facts and data on the internet. Can we go now?”

Not just yet.

You know to find facts before you make crucial decisions (especially financial ones) because you’re reading this. Because, simply by virtue of having landed on this web page, your IQ has approached four digits and you, for the moment, can do no wrong.

But just knowing you can use data to defeat cognitive bias doesn’t give you real, practical help.

That’s because, oftentimes, finding good data (for free) about certain financial matters like, say, asset class returns is not a breezy undertaking.

Statistics get all mashed up and presented in ways that don’t enable quick comparisons. There’s usually some turgid jargon and fine print. Sometimes you have to make adjustments and estimations and think about things a little.

All of which is stuff any reasonable and thoughtful human can do, lizard brain, toenails and all. And they can do it pretty well. It’s just they often don’t realize it.

They’re prone to thinking they need to be experts in jargon or have a fancy degree or use a special computer program to find the truth in numbers because of those mashed-up stats and fine print and adjustments and estimations.

But they don’t. Even though there might be some room for disagreement about specific adjustments and estimations that one person makes, as you get deeper and deeper into the details, the implications of disagreements get smaller and smaller. And pretty soon the quibbles don’t really matter anymore.

All of which is to say: The effort delta between reasonably good data and zero data is pretty small. But the financial implications of OK data versus zero data are more pronounced than a Neanderthal’s hairy brow.

And so, here at FinanciaLibre, we like us some (reasonably good) data to go along with our inbred biases. Reasonably good data – data that doesn’t take much time or effort to pull together and review but which provides solid factual grounding for decisions – is our secret weapon against cognitive biases that would otherwise cause us to make choices on misleading perceptions or flimsy feelings.

And we get a caveman-sized boost in financial results and life awesomeness by using that weapon.


So let’s get some.

We previously used 30-year average annual real rates of return observed across a variety of asset classes to help devise battle-tested ways to invest. We also looked at correlation coefficients to help us build portfolios. And we used historical statistics to contemplate equity returns across different future economic scenarios.

All good anti-lizard activities that made us brawnier and wealthier Luchadores.

One thing we haven’t yet done, but which will be remedied shortly, is present shorter-term results of various asset classes’ returns.

From a long-run investment strategy perspective, these shorter-term results are less instructive than our 30-year data. After all, there’s lots of noise in short-term results, and our lizard-brain recency biases urge us to chase past returns because we’re inclined to always believe the future will be exactly like the (very) recent past. All of which is why short-run results – even results from a 10-year horizon – haven’t played much of a role in our discussions of money and investing to this point.

Nevertheless, simply being exposed to reasonably good data helps build our financial intuition. It actually helps us carve out some of the lizardness from our brains.

“What in the shit, FL?!” you cry. “Don’t cut out my lizard brain!”

No lobotomy necessary. It works like this. Our lizard brains are simple and prone to mis-remembering stuff because either it just happened or it was especially impactful, even if those things are not at all representative of the broader, factual “truth.”

So we are prone to believing / feeling things that aren’t quite right. Like feeling that stock market investing is risky because of Black Monday and the Great Recession and the Dot-com-bustion. Or like feeling that housing’s a great investment because we see neighbors’ home prices shooting up faster than Soviet boxers in a Rocky movie. Or like feeling that U.S. stocks’ returns have been pretty bad lately just because of a couple of down days for the Dow.

To combat the (wrong) feelings like these and to make our brains more rational (at least about finances), it’s helpful to be regularly exposed to reasonably good data – numbers, statistics and things that are expressly NOT perception-based. Both long-term and shorter-term.

Below is a table summarizing cumulative total nominal returns over the last 10, 5, 3 and 1 year calendar periods all ending at/around Jan. 1, 2016.

Jargon, explained: Since they’re “total returns,” they assume reinvested dividends where applicable. And since they’re “nominal returns,” they don’t account for inflation. Also, aside from the 1-year return shown, these are not annualized figures; they’re cumulative over the whole period.

I’ve thrown in CPI growth at the same intervals to enable a quick conversion to “real returns” if you’d like (i.e., nominal returns minus inflation equals real returns).

All of this took maybe 30 minutes to put together. And you could easily have done it at least as quickly yourself. See the table’s sources for good spots to find useful financial data for your own investigations.

Now, among other things, you could argue the MSCI EAFE index returns should be net of weighted inflation levels across the countries reflected in the index and so deducting U.S. CPI won’t give “true” real returns.

That’s fair. But, as mentioned, little changes like this don’t do much to the final result but complicate things a lot. Bad tradeoff for our purposes here: lots of time and effort for very little change in the outcome. Our secret weapon is data that, though “imperfect,” is cheap and easy to obtain for no-hassle zapping of our lizard brains.

Total Returns by Asset Class
Total Returns by Asset Class

Sleeper Holds

What’d we learn from this quick and dirty foray into data land? What messages should be zapping our lizard brains?

Well, for one, total returns achieved from U.S. equities have been pretty reedonkulous in the last decade, way outpacing real estate and inflation. (Which is not surprising.)

Second, we can see the effect of the mortgage meltdown in U.S. stock returns, illustrated by the zero delta between total returns on U.S. stocks during the last 10 years and 5 years.

Third, non-U.S./non-Canadian developed economy equities have done pretty well. But their performance has been sluggish on a historical basis.

Fourth, as of the beginning of 2016, U.S. housing prices were still a little below their 2006 values, which is a long time to wait for a positive return if you happened to buy housing at the wrong time. But housing’s been on a tear the last few years – way above long-run trends.

Fifth, commodities are the investing bastion for people who just can’t get enough negatives in their lives. (Note: the S&P GSCI is heavily weighted with energy, to the tune of almost 80%. So GSCI performance is almost fully explained by the last few years’  turmoil in oil markets. Other commodities indexes with different weightings would reflect a different performance arc. But commodities still suck as long-term investments, no matter how they’re weighted.)

Sixth, we’ve been living in an unusually low-inflation environment for the better part of the last 10 years.

Seventh, it takes very little work and probably even less skill to compile reasonably good data.

Eighth, seven takeaways is enough. You can inspect the table for yourself.

Full Nelson

The very best way to combat our lizard-brained biases like thinking next week’s gonna be just like last week or the impression that stock market investing is risky just because we’ve heard about Black Tuesday is with cold, callous data and basic computation. Which, yes, even a hairy-browed Neanderthal could do. It’s easy and can save us all a ton of money and trouble by improving our decision-making.

Reasonably good data that can be quickly and easily compiled is a super-powerful secret weapon against cognitive bias. It doesn’t have to be perfect. It doesn’t have to be precise to the trillionth decimal place. It just has to be pretty good. And we’re best served if we get some regularly.

So please feel free to pass this information along to the lizard brains of others you know and care about by kindly placing the above table into their grubby little crotch-grabbers and backing away.

You’ll have done them, and everyone around them, a tremendous service.

You’ll have stood up to lizard-brained lunacy with silent and graceful reproach.

You’ll have been the flying elbow of truth to their reptilian head of crap.

You’ll have been a proud and noble Luchador.

Luchadores, are there common finance misperceptions that simple data can blow up? Share them below.


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