Predictably Irrational - 3 Lessons The Investor In You Needs to Learn

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  • 05 Feb 2023
Predictably Irrational – 3 Lessons The Investor In You Needs to Learn

We routinely overpay, underestimate, and postpone everything we do, from drinking coffee to losing weight, from buying a car to choosing a romantic partner. However, these erroneous actions are neither random nor senseless. They're methodical and predictable, which causes us to be predictably irrational. Dan Ariely, a behavioural economist, deciphers how our judgements are significantly less reasonable than we believe in his book Predictably Irrational, and how marketing methods exploit this irrationality to attract customers.

Here are three crucial lessons from the book that can help us make better decisions to improve our lives and finances.

Humans do not think in absolute terms but terms of relativity. So you may be happy with your smartphone as it has everything you want and more. That is until you see your friend's latest phone purchase. Somehow, the top-of-the-line smartphone you recently bought doesn't seem as shiny anymore. Businesses exploit this inherent human tendency by placing an inferior option next to superior ones to make the superior ones more appealing to customers.

The next time you compare and judge something as superior to what you have, wait a minute. Consider whether you need to buy something new or a successful marketing strategy and the lure of possessing something shiny and new that has you craving it.

When looking at two similar products next to each other, you may assume that the higher-priced product is superior. However, that is not always the case. Higher-priced products bring an expectation of quality. Without this expectation, we would question our purchasing decisions more often.

There is a positive feedback loop that starts here because we assume the higher-priced product has better quality, and perceive it accordingly. Regardless of whether the product is genuinely superior to the lower-priced one, this perception will be there. The next time you are inclined to purchase something, scrutinise the item's details, do your research, look at reviews, and then make a decision that isn't simply based on price.

An economic concept called the endowment effect states that we value things more highly if we own them. This is especially true for items with experiential, symbolic, or emotional significance.

For example, suppose you enter a lottery to win tickets to a concert. You win the ticket but are unable to attend. You decide to sell your ticket at a hiked-up price because you believe it is worth much more. Here the endowment effect shows how you have raised the ticket price because you have an emotional attachment to it since you have won it. Moreover, since you own it, you don't want to let it go at a perceived loss, as the endowment effect illustrates that we hate losing things we own. This behaviour also depicts how because we think highly of an item, we expect others to do so as well.

Bottom Line

Using the above lessons to refine your decision-making skills brings some rationality to the irrational, which will lead you to a financially healthier and happier lifestyle.

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