Overconfidence and debiasing in the financial industry

Abstract

Purpose

The purpose of this paper is to measure overconfidence amongst finance professionals in domain relevant knowledge, and test for the impact of different debiasing methods.

Design/methodology/approach

The approach used was survey field experiments with varying debiasing attempts.

Findings

The subjects were overconfident in terms of probability calibration, better‐than‐average beliefs, and unfounded confidence. Debiasing attempts yielded mixed results. Explicit written warnings reduced better‐than‐average‐type of overconfidence. There was a further strong effect from attending lectures on investor psychology covering relevant examples. In contrast, there was only limited success in reducing miscalibration in probability assessments.

Research limitations/implications

Different types of overconfidence are distinct and respond differentially to debiasing. Future research on debiasing professional judgment should concentrate on testing in‐depth/personally engaging methods.

Practical implications

It is important for bankers to acknowledge the dangers of overconfidence. Correct confidence interval calibration is needed in order to have a sense of the risks involved in different asset allocation policies and trading strategies. Bankers should also be able to help their clients avoid overconfidence.

Social implications

Debiasing overconfidence in the finance industry likely carries public benefits. The results imply that this task is not easy, but not impossible either. The authors think further investment in this endeavor is justified.

Originality/value

Documenting an important judgment bias among finance professionals and estimating the effects of debiasing.

Citation

Kaustia, M. and Perttula, M. (2012), "Overconfidence and debiasing in the financial industry", Review of Behavioral Finance, Vol. 4 No. 1, pp. 46-62. https://doi.org/10.1108/19405971211261100