How do we make wrong decisions?

If this piece of information from The Daily Mirror of UK is to be believed, on an average, a person makes 773,618 decisions in a lifetime.

Whoa!

“That is about 27 decisions in a day – starting from whether to turn off the alarm or hit snooze,” mentions the article.

We make decisions all the time.

Should you drive down in your car or take a cab?

Should you watch Movie A or Movie B?

Should you have ice cream or a brownie?

Should you vote for NM or RG?

Should you sign up for my blog or not? 🙂

The interesting part is most of these choices are conflicting. Take some more examples.

Should you launch one product or the other?

Should you build the feature X or feature Y into your software?

Should you invest in equity or debt?

Should you sell stocks now or buy more?

Should you take on more loans for your venture or sell equity?

Should you give the contract to vendor A or vendor B?

Now comes the interesting part. Quoting the same article, of the 773,618 decisions – you will come to regret 143, 262 decisions. It means that 25% of your decisions would turn out to be bad – wrong decisions.

I wonder how come we make so many wrong decisions. What on earth can affect our mind so much that we can’t make right decisions? Or should I say how can we prevent ourselves from making wrong decisions?

Let’s explore this subject more.

Why do we make wrong decisions?

Before that, how do we make decisions? Is there some science behind decision making or is it akin to flipping a coin and let the head or tail decide?

On decision making, this is what Wikipedia says:

…decision-making is regarded as the cognitive process resulting in the selection of a belief or a course of action among several alternative possibilities. Every decision-making process produces a final choice that may or may not prompt action. Decision-making is the process of identifying and choosing alternatives based on the values and preferences of the decision-maker.

So, what I gather is that decision making is a cognitive process, but more importantly, it is “based on the values and preferences of the decision-maker“.

Basically, it means that there is a degree of subjectivity in the process. And this subjectivity can lead to biases. I further came to understand that there are several biases that can lead us to make incorrect or wrong decisions.

What are these biases?

Biases that can lead to wrong decisions

One of the definitive books on the subject of decision making and biases that affect it, is that of Daniel Kahneman, Thinking Fast and Slow (TFAS).

Here is an excerpt from the book’s entry on Wikipedia:

Each one of us has two modes of thought: “System 1” is fast, instinctive and emotional; “System 2” is slower, more deliberative, and more logical.

Each of these thought systems are affected by biases such as Anchoring, Availability, Framing, Optimism, Loss Aversion, Over Confidence and Sunk Cost Fallacy.

Simply, these biases affect our decision making. Let’s look at some of the above and other such baises.

1. Anchoring – When you go to buy a car and the salesman quotes you a higher price of Rs. 7 lacs, but then agrees to reduce it to Rs. 5.5 lacs, you come out lot more happier. You got a deal. The point is you anchored the higher price in your mind and then felt joyful for the lower. Even if he had quoted a much higher price, say of Rs. 8 lacs and you would have, after the negotiation, paid this time a price equal to the earlier quote of Rs. 7 lacs, you would have still felt great. That’s the anchoring bias. Your response and acceptance to a number changed based on an initial number or anchor given to you. True for all shopping!

2. ---

   Availability Heuristic – You might know a uncle who lived till 80, even though he was a chronic alcoholic. As a result, you tend to underestimate the damage alcohol can do to you. Simply, you tend to overestimate the importance of information available to you. This is closely associated with the Recency bias, where recent events tend to cloud your thinking. For example, if the stock markets has been going up, you think it will keep marching northwards.

3. ---

   Survivorship – If you look at only the winners as benchmarks and ignore the losers, you lose some important lessons too. Read here the story of the planes which were not shot down by the enemy and were being used as benchmarks for defining what was a good plane whereas the real learning lay in those planes which never came back. You may want to listen more to customers who do no say anything and seek their feedback on improving the product than just listening to the vocal complainants. The silent users are likely to have much more insight and could be highly profitable customers.

4. ---

   Loss Aversion – You could easily pass on investing in an innovative business idea because there is no certainty of success. But a guaranteed income scheme, however low that income is, makes you pull out your wallet. As human beings, we fear losses more than we value gains. You would not make an investment where the chances of losing are higher than the chances of winning. A related bias would be that of seeking certainty of outcomes. You see that’s why you have been buying all those insurance policies.

5. ---

   Framing – Let’s take the TFAS experiment again where more people preferred to opt in for a surgery that had a 10% mortality rate than a 90% survival rate. Yes, Loss aversion and Certainty bias too is at work here. The way you present or frame the information can determine the choice being made.

6. ---

   Confirmation Bias – You tend to give importance to information that confirms your preconceptions.  You would often find yourself doing this very frequently. In the recent events around “intolerance“, all sides are confirming their own biases. Everyone interprets every statement to suit their existing beliefs. If you are bought an investment, you will tend to seek all information that helps you confirm your decision to hold it.

7. ---

   Sunk Cost Fallacy – This makes you think that since time, effort and money has already been invested into something, it is not worthwhile to abandon it. And you put more good after bad. It is always prudent to pull out of any project that indicates no chances of survival. It could be your relationship or your financial investment.

There are many more. Read about them here and here.

I am sure as you read through the above list, you would have had your own flashbacks about the decisions and which bias affected them.

Now, is there a way that we can prevent ourself from falling prey to these biases and hence make more right decisions, better decisions?

Applying loss aversion, how do we avoid making wrong decisions? 🙂

How to avoid making wrong decisions?

As human beings, it is difficult for us to be rational at all times. In my view, we make not 27 but a 100 small and big decisions every day. This is a huge load on our mind. With that kind of input / output pressure, the chances of taking wrong decisions go up dramatically.

So, should we just freeze and stop making decisions at all than making the wrong ones? We know that is not feasible.

Now, a strike rate of 100% good decisions would be impossible to hope for. Some will turn out to be wrong.

However, that should not worry us.

I don’t have a solution as yet to the issue except for the fact that, we have be aware of the biases that could lead us astray.

We could also benefit from accepting the fact that we are humans, that we can get affected by biases and that we can make mistakes. This humility will serve you more than anything else.

Let me recount you a story of a CEO and his decision making style.

This CEO, who was only a matriculate (10th pass), started his career as the sales guy  and rose to become the MD & CEO of  the India office of an American AMC.

When asked, what is the key to his meteoric rise in the organisation, replied –

I took decisions while others hesitated. Most of my decisions turned out to be good. Some which turned out to be bad gave me experience. I just learnt from them and over time made better decisions.

Well, that seems like a good strategy to me for now.

---

Between you and me: If I have to make it simple, at the root of all our emotional biases is our fear and greed. What would you say? How do you prevent yourself from falling for the biases? Do share. I look forward to learning from you.