Why smart people make major money mistake?

Psychoeconomics, a field based on the principle that all finanical decisions are influenced by seemingly irrational psychological tendecies. Such tendencies can lead even the brightest minds to make colstly mistake. And there are certain mental quirks that lead to these errors.

1. We fear loss more than we should, caused by sunk cost and loss aversion

2. We ignore inflation, caused by money illusion

3. We think everyone else is an expert. This is the real part that relates to information cascades. This snowball effect is a very powerful force. Economist, Ivo Welch, explains “Even if what your personally observe indicates one thing, the fact that 10 of your friends have decided something else is hard to ignore.” Blindly following the crowd can cost you a bundle in the financial markets. There are two examples in the article. One is, when President Clinton began his campaign to reform the nation’s health-care system in 1992, individual investors followed suit when professional stock pickers soured on all health-care stocks, causing share price of Johnson&Johnson began an 18 month decline, ignoring the fact that Johnson&Johnson’s bussiness actually wasn’t going to be harmed by health-care reform. Another, on the flip side, people often gallop with the herd right into a dubious investment. “If you follow the fad, you’ll just be whipwased.”

4. We are overconfident

5. We hear what we want to hear, caused by preferential bias.

6. We value some dollars less, caused by “playing with the house money”

7. We resist change, caused by “status quo bias”

8. We bite off more than we can chew

Finally word, “The idea is to bring about a new way of thinking about and handling money. A quick fix, without thoroughly understasnding the potential consequences, will lead to compounding your mistake.”