Behavioral Finance and Your Portfolio

21Emotional Bias #6: Regret Aversion Bias

I visualized my grief if the stock market went way up and I wasn't in it—or if it went way down and I was completely in it. My intention was to minimize my future regret, so I split my retirement plan contributions 50/50 between bonds and equities.

—Harry Markowitz, father of Modern Portfolio Theory

Bias Description

Bias Name: Regret aversion bias

Bias Type: Emotional

General Description

People exhibiting regret aversion avoid taking decisive actions because they fear that, in hindsight, whatever course they select will prove less than optimal. Basically, this bias seeks to avoid the emotional pain of regret associated with poor decision making. Regret aversion makes investors, for example, unduly apprehensive about breaking into financial markets that have recently generated losses. When they experience negative investment outcomes, they feel instinctually driven to conserve, to retreat, and to lick their wounds—not to press on and snap up potentially undervalued stocks. However, periods of depressed prices often present the greatest buying opportunities. People suffering from regret aversion bias hesitate most at moments that actually merit aggressive behavior.

Regret aversion does not come into play only when following a loss; it can also affect a person's response to investment gains. People exhibiting regret aversion can be reluctant, for example, to sell a stock whose value has climbed recently—even if objective indicators ...