Investing is for everyone. And if done with the right mindset, it can offer rewarding returns. Legendary investor and former Vice Chairman of Berkshire Hathaway, Charlie Munger, highlighted the role of human psychology in shaping our decisions, in life and in investing. He created a list of 25 key psychological tendencies that guided our decisions: and once understood, could help investors avoid common mistakes and make sound investment choices.
This week, we’re diving into tendency number ten: the Influence-from-Mere-Association Tendency and understanding how it influences investment behavior.
What is it?
Charlie Munger says that as humans, we can be easily manipulated by mere association: through advertising, the price or quality of a product, a person or group of people. We attribute value to something solely because it is associated with something else (usually positive) whether or not there is actual merit in it. Munger says we do this because we humans tend to seek out patterns and generalisations to make things easier for us to understand our digest.
He illustrates this with the example of Coca-Cola, saying: “Advertisers know about the power of mere association. You won’t see Coke advertised alongside some account of the death of a child. Instead, Coke ads picture life as happier than reality.” We associate Coca-Cola with all things happy and celebratory. Similarly, Apple is adept at creating the illusion of quality with higher price, much like many other luxury brands. Sometimes, you get what you pay for, but oftentimes, we are paging for the brand, which we associate with luxury, status or quality.
How does it play out in the world of investing?
This tendency explains how humans are wired to associate feelings about one thing with another, even when there is no logical connection. If something reminds us of a positive (or negative) emotion, we instinctively transfer that emotion to it. In investing, this plays out when investors are swayed by superficial associations rather than underlying business fundamentals. We may associate positive qualities with companies or CEOs we admire, which can lead to a bias when investing.
A simple example would be that of a charismatic founder or CEO who is the face of a company. This person is all over the news, getting lots of good press and attention. We like the way they speak, the way they present themselves and their ideologies. Even if the company’s performance CEO’s charisma with success and profits, even when the facts say otherwise. The opposite is also true: a company that is profitable and delivering good returns may not be in our consideration, simply because we think that sector or company is “boring.”
There is also the halo effect, where we feel that a company that has done well in one sphere, will by default do well in another new field. An automotive giant venturing into real estate, for example. Simply by association of their success in the automobile industry, we assume that their real estate venture will also be successful, without any facts to prove it. And this can lead us to make poor investment decisions.
So how can we avoid making bad investments by mere association?
Navigating the Influence-from-Mere-Association tendency is about thinking independently and rationally, and NOT getting swept up in emotions or following the crowd. By focusing on facts and figures instead of feelings, we can lock those associations away and make smart investment decisions that will serve us well.
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