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the psychology of successful trading

Smart People Still Have Biases

Introduction

Some people deny that smart people still have biases. Here is a description of one example of that: http://backreaction.blogspot.com/2018/10/gender-bias-in-academia-case-strumia.html

They are wrong however. The psychological literature makes this clear. I will outline the data showing that in this article.

What are Cognitive Biases?

There are a large number of cognitive biases operative in our psychology. There were over 180 at the last count, and that is just the ones we know about so far.  All of these biases are largely invisible to us in their operation. They are extremely hard to eradicate.  Significant financial incentives do not cause reduction of the effects of some of these biases.  I have discussed myself at length (Short, 2017) the way biases can cause highly suboptimal decision-making. That happens even when there are very serious financial consequences.

The types of bias I mean would be exemplified by Confirmation Bias. This occurs when people look for evidence which confirms hypotheses they already believe.  I think we should also consider Gender Bias in this same arena. However, the claim we should not represents a potential objection to my position.  I will address that below. But first I will show that intelligence offers no protection against implicit biases.

Smart People Still Have Biases: Three Examples

Here are three types of bias where it was not the case that more intelligent subjects exhibited less bias.

  1. Myside Bias — this is related to Confirmation Bias.  It occurs when people evaluate and generate evidence or test hypotheses in a way that conforms to their prior opinions and attitudes.  Stanovich, West and Toplak (2013, p. 259) found that the “magnitude of the myside bias shows very little relation to intelligence.”
  2. Dunning-Kruger Effect: unskilled persons also lack insight into their relatively poor abilities in an area.  However, similar bias effects operate at the other end of the spectrum.   Schlösser et al. (2013, p. 85) report that their model “partially explained why top performers underestimate their performances.”  (I am assuming a correlation here between high intelligence and an ability to be a top performer in the fields of endeavour examined by the authors.)  But here we see that intelligent subjects are also not immune from a variant of the Dunning-Kruger Effect.
  3. The Gambler’s Fallacy — this is the tendency to think that fixed probabilities are altered by past events.  For example, the odds of getting heads on throwing a fair coin are always 50%, irrespective of what has happened previously.  If someone sees heads ten times in a row and then says either “it must be heads again next” or the opposite, they are exhibiting this apparently maladaptive heuristic.  Xue et al. (2012) found that “individuals’ use of the [Gambler’s Fallacy] strategy was positively correlated with their general intelligence.’’
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Smart People Still Have Biases: A Potential Objection

I will close by considering one potential objection to my account.  This is that Gender Bias is not a cognitive bias and should not be considered in the group above where intelligence is not a protective factor.  I will counter this objection in a number of ways.

  1. If Gender Bias is not a cognitive bias, what is it?  It results in a systematic slanting of judgements away from what would be strictly rational, and that accords precisely with my working definition of a bias (Short, 2015).
  2. I do not need to assume a narrow and precise definition for Gender Bias.  I am including within it all of what people refer to by the terms Sex Discrimination, Sexual Discrimination, Homophobia, Anti-LGBTQ+ prejudice etc.  These discriminations often take place via stereotyping — assuming that everyone in group X has certain characteristics which may in fact be possessed by only some or indeed none of the members of group X.  Stereotyping appears on the standard list of cognitive biases.
  3. Krieger (1995) explicitly considers racial bias within a cognitive bias framework and includes also discussion of Gender Bias. 

So we can see that the claim that intelligence protects against implicit bias is false. 

For more on a bias in action, see: https://timlshort.com/2020/08/15/omission-bias-and-financial-markets/

By Tim Short

I am a former investment banking and securitisation specialist, having spent nearly a decade on the trading floor of several international investment banks. Throughout my career, I worked closely with syndicate/traders in order to establish the types of paper which would trade well and gained significant and broad experience in financial markets.
Many people have trading experience similar to the above. What marks me out is what I did next. I decided to pursue my interest in philosophy at Doctoral level, specialising in the psychology of how we predict and explain the behaviour of others, and in particular, the errors or biases we are prone to in that process. I have used my experience to write The Psychology of Successful Trading. In this book, I combine the above experience and knowledge to show how biases can lead to inaccurate predictions of the behaviour of other market participants, and how remedying those biases can lead to better predictions and major profits. Learn more on the About Me page.

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