Once Burned, Investors Must Beware Negativity Bias

From politics to plane crashes, this powerful force is at work on all of us. Don’t let it wreck your investment strategy.

“Brief contact with a cockroach will usually render a delicious meal inedible. The inverse phenomenon—rendering a pile of cockroaches on a platter edible by contact with one’s favorite food—is unheard of.”
 — Paul Rozin and Edward Royzman

Negativity bias is the nature of humans to recall negative experiences more vividly than positive ones, and therefore act consciously and subconsciously to avoid negative experiences.

The negativity bias certainly helped humans survive thousands of years ago. It made sense to constantly look around for potential things that could kill you—you know, things like wild animals, crazy people with spears, and the like. Today, the negativity bias is a dead weight dragging the unsuspecting down.

The negativity bias is well documented as a powerful instinct. Teresa Amabile and Steven Kramer studied the workdays of professionals and found that negative setbacks, even if minor, were twice as powerful in impacting happiness as positive steps forward. Researchers have also observed that learning happens faster with negative reinforcement than positive reinforcement.

Analyzing language, researchers found that 62 percent of emotional words were negative and 74 percent of words describing personality traits were negative. Research even shows that negativity bias is inherent in young children, who perceive positive faces as good, negative faces as bad, but also neutral facial expressions as negative.

Research also tells us that even babies have the negativity bias. How many times have you left an encounter with someone wondering whether that person was upset with you, only because they weren’t smiling the entire time? The negativity bias even affects marriage.

Research by John Gottmann shows that married couples, like all of us, have positive and negative interactions, but that for a marriage to last, the ratio is five positive interactions for each negative one. Such is the force of our negativity bias. Our negativity bias is why the news feeds us far more negative information than good (“3 dead in heat wave!” as opposed to “Los Angeles posts best year of weather in 10 years!” or “Plane slides off runway in Chicago,” instead of “There hasn’t been a fatal plane crash in three years, a record for the industry.”).

It’s also why during campaign season, a politician will spend far less time on his own positives, and far more time on his opponents negatives—he is feeding into our negativity bias, which resonates much louder.

For goodness sake, you must be saying, what does this have to do with investing? The negativity bias is well at work in the investment world. We know that investors feel the pain of losses twice as much as the pleasure of gains. This tilt toward the negative encourages investors suffering from negativity bias to sell during corrections—at precisely the wrong time. They would rather run to cash than experience the pain of  the negative experience.

The negativity bias is especially dangerous when there are recent events that make it more acute. This is a behavioral science term cal-
led “vividness.”

Some investors ride ride out corrections just fine, but after going through a severe bear market, such as the 2008 and 2009 financial crisis, the vividness of that experience, coupled with negativity bias, becomes too much for others to bear, and at the slightest correction, he panics and sells at the wrong time. Vividness can create a trigger effect reaction among investors, even from the slightest market dip.

As with all behavioral biases, the best way to combat it is to be aware of it, recognize it, and squash it before the negativity bias negatively impacts you or your portfolio.