Action Bias: When It’s Ok To Do Nothing
Market Meditations | June 16, 2021
In response to external stimuli, we often feel the need to act and it’s no surprise! We live in a world full of common sayings that tell us action is a good thing; from Nike’s “Just Do It” slogan to proverbs such as “the devil makes work for idle hands”. When decisions are based on logic and previous data, action is essential; however we are also prone to carrying out actions simply to do something as opposed to nothing. It is these instances which are described by action bais. This is a proven phenomenon and can have substantial impacts for us as traders and investors.1
- Overtrading is one such effect. We feel the need to do something, so even if a trade does not match our system (say we rely on 4 confluent data points but only 3 are present), we may give into impulse simply due to not having taken a trade in a few days. This leads to worse portfolio performance and is further exaggerated when we feel overconfidence.2
- The way we process information is also affected. We are constantly bombarded with new data and action bias can fool us into thinking we need to analyse this in far greater detail than we should. As discussed in a previous article (check this out here), new information is often perceived to be more significant than it is in reality. As such, action bias can cause us to spend large amounts of time analysing insignificant information – incurring a great deal of opportunity cost.
So how can we avoid these negative effects? Firstly is to always consider a “do-nothing scenario”. We are often faced with options but rarely consider the choice of simply not carrying any of these out. Another method is to be deliberate. Each time you dedicate your time to an action ask yourself, “why am I doing this and does it help achieve my goals?”
Everyone is susceptible to action bias alongside it’s negative effects on our financial performance and overall productivity. Be deliberate with your actions and remember, often it really is ok to do nothing.