Essential InSights

Core Topics for the Everyday Investor

Investment Bias: Information

Investment Bias: Information

Information bias is the tendency to evaluate useless or the wrong information when determining value. It’s the belief that certain commonly held data points are helpful in understanding the value of an investment, when they may not be. The key in investing is not seeing the forest for the trees, but rather the price of lumber. There is so much information that seems valuable. That is the root of this bias. Similar to the logical fallacy “appeal to authority” the source of information can create its own gravitas and feel like a value. This feeling of value, because of the source of information is the bias.

Investors are bombarded with largely useless information every day. Financial talking heads, newspapers, and stockbrokers, and it is difficult to filter through the collective biases and focus on information that is most relevant. This bias is the “value of valuable information.” One great example is the daily share price or market movements of a stock. This feels like valuable information, but usually contains no information that is relevant to an investor who is concerned about the value of a company. True fundamental valuation should be done without knowing today’s stock price. It honestly shouldn’t matter. Yet there are entire news shows and financial columns dedicated to evaluating movements in share prices on a moment-by-moment basis.

In many instances, investors will make investment decisions to buy or sell an investment on the basis of short-term movements in the share price. This can cause investors to sell wonderful investments due to the fact that the share price has fallen and to buy into bad investments on the basis that the share price has risen. Little about the near term price movements of a stock, commodity, or bond has to do with the value of its cash flow. Ideally, investors would determine the price they are willing to pay for an investment without knowing its current price. Then when confronted with the price it is selling for, only decide if it is above, or below, its value. Investors would make superior investment decisions if they ignored daily share-price movements and focused on their own willingness to pay for income.

Additionally, the Information bias tends to view pieces of information as digital, when it should be analoge. All information is not equally valuable, all the time. Likewise, information is not equally valuable across investments. An example, while the “costs of capital” metric is universally important to value investors, the output from the cost will range from business to business. So while this data point might be a leading indicator of the success of an investment in banks, it’s less valuable for technology companies.

Considering all information as quantitative over qualitative is the equivalent to saying “I’ve listened to ten medical podcasts so why would I listen to my doctor.” This Information bias exists in the belief that all “information is good” and that “all information is equally valuable” causes us to have conclusions that are false or investments that don’t reflect our intentions. Essentially, we are borrowing other people’s biases and creating a consensus of bias.

essential insights

Other Related Topics:

Definitions: Fixed Income

Fixed Income (or debt) represents your ownership over the repayment of a debt. Usually considered bonds, they are contracts promising the repayment of loaned money.

Read More »

Definitions: Equity

The term Equity represents any ownership rights over an asset’s cash flow generation potential. As an asset class, there is no guarantee of a return

Read More »

Pin It on Pinterest