The financial sphere is mourning the passing of Daniel Kahneman, a psychologist, Nobel laureate, and titan of investment. Despite being a non-economist, his understanding of human behaviour in the field of finance brought in seismic changes. Previously, it was assumed that people approached finances with cold rationality, but Kahneman revealed our decisions are more often shaped by our biased and emotionally-driven brains.
There are numerous takeaways for investors. Kahneman shed light on ‘loss aversion’, explaining that people feel the sting of losing a euro more than the pleasure of gaining one. So much so, that even those individuals who are generally risk-averse may be compelled to take riskier bets just to avoid loss by promising to exit only when they break even.
The works of Kahneman conveyed that our emotional responses to losses might be the reason why constantly checking our financial portfolio isn’t the best strategy. He unveiled how we, as investors, are easily drawn into compelling stories, confusing randomised swings for significant patterns. Moreover, we become overly attached to our holdings due to the endowment effect, despite clear logical reasons to let go.
Kahneman also highlighted how overconfidence can cloud our judgment, thereby corroborating the wisdom of investing in index funds rather than making presumptuous attempts to outwit the market. This perspective sparked scepticism in institutions about the efficacy of stock-picking, indirectly propelling the popularity of inexpensive index funds.
Undeniably, Kahneman’s research had a profound impact on the world. The loss of such a luminary thinker and exceptional human being is deeply felt.