Behavioral Finance and Your Portfolio

20Emotional Bias #5: Endowment Bias

A wise man should have money in his head, but not in his heart.

—Jonathan Swift

Bias Description

Bias Name: Endowment bias

Bias Type: Emotional

General Description

People who exhibit endowment bias value an asset more when they hold property rights to it than when they don't. Endowment bias is inconsistent with standard economic theory, which asserts that a person's willingness to pay for a good or an object should always equal the person's willingness to accept dispossession of the good or the object, when the dispossession is quantified in the form of compensation. Psychologists have found, however, that the minimum selling prices that people state tend to exceed the maximum purchase prices that they are willing to pay for the same good. Effectively, then, ownership of an asset instantaneously “endows” the asset with some added value. Endowment bias can affect attitudes toward items owned over long periods of time or can crop up immediately as the item is acquired.

Example of Endowment Bias

Investors prove resistant to change once they become endowed with (take ownership of) securities. We will examine endowment bias as it relates to inherited securities.

William Samuelson and Richard Zeckhauser¹ performed an enlightening study on endowment bias that aptly illustrates investor susceptibility to this bias. Samuelson and Zeckhauser conducted an experiment in which investors were told to imagine that they had to newly acquire one ...