Relativism Bias | Chapter 9, Lecture 5 | Quantitative Trading & Factor Investing

In this video, we delve into the cognitive bias known as relativism and its potential impact on financial decision-making. Relativism is the human tendency to evaluate or perceive things relative to a certain context or reference point rather than in absolute terms. In the world of investing, this could manifest as judging the value of an investment relative to its recent price history rather than assessing its fundamental worth or its role within the larger portfolio. We begin by explaining the concept of relativism, providing examples from everyday life and the financial realm. We explore how this bias can influence decisions about buying, holding, or selling investments, potentially leading to sub-optimal outcomes. Next, we discuss the effect of relativism in the context of the anchoring bias, where investors may anchor their expectations or judgments to a specific reference point, such as a stock's previous high price, and make decisions based on this anchor, ignoring other pertinent information. We also delve into the endowment effect, another manifestation of relativism, where investors may overvalue an investment simply because they own it. Finally, we share strategies for recognizing and mitigating the influence of relativism. These include developing a disciplined investment strategy, using systematic rules for buying and selling, focusing on fundamental valuation metrics, and regularly re-evaluating your portfolio based on objective criteria. Whether you're a beginner investor, an experienced trader, or a finance student, this video provides invaluable insights into how cognitive biases affect investment decisions. Join us as we continue to explore the fascinating world of quantitative trading and factor investing.