How Our Biases Feed Pessimism

Behavioral Finance
Sarah F. Roach, Vice President

Do you know someone who is convinced the future will be worse than the past…or even the present?  I wouldn’t be surprised if you do, because pessimism is amazingly prevalent.  But is such gloom warranted?  People today have longer life expectancies and are routinely cured of illnesses that were often fatal not so long ago.  In addition, we live our lives at a level of comfort, safety and luxury not experienced even by royalty in times past.  Despite these and many other facts that make a solid case for optimism, unrealistic pessimism persists.

According to Harvard psychologist Steven Pinker, pessimism results from a combination of our psycho­logical biases and the nature of “news.”  One mental bias can be called the “bad is stronger than good” phenomenon.  Examples include the fact that we feel loss more keenly than gain, criticism hurts more than praise uplifts us, and we tend to envision more potential bad outcomes than good ones.  Secondly, we have a tendency to confuse changes in our percep­tions with changes in the world itself.  Call this the “good old days” phenomenon.  For example, typically when we’re young, life seems relatively simple and predictable, because adults tend to hide life’s troubles and unpredictabilities from us.  As parents doing the same for our children, however, we see the world as fraught with risks, dangers and complexities.  Uncon­sciously we decide that the world has changed, not just our perception of it.

The nature of news compounds our psychological biases toward pessimism.  News consists of events that do happen—not events that don’t.  Since violence and disasters happen, they make headlines.  You’ll rarely read stories about shootings not happening or businesses not being robbed.  Add the market for fictionalized violence in movies, books and TV, and it’s clear that negativity sells.  (“If it bleeds, it leads.”)  Moreover, everyone with a smartphone can now upload instant “news” about tragic events they witness.

All of these factors combine to feed pessimism in a cognitive bias I wrote about last July: the availability heuristic.  This bias essentially causes us to think that the more easily we can bring something to mind, the more likely it is to occur. In other words, people tend to consider big, bad events as more likely than they actually are, simply because they are memorable.  It’s far harder to bring to mind the steady progress of prosperity, medicine and technology—as well as the long-term upward trend of stock returns they contribute to—so we disregard these very common, and ultimately optimistic, facts all around us to the detriment of our outlook on the future.  As I wrote, “It would serve most investors well to make the avail­ability heuristic work in their favor by visualizing the long-term investment success they can achieve despite—and sometimes because of—inevitable price drops. …  A steep bear market may be easy to bring to mind, but it is typically only a temporary interruption in a long-term upward trend.”  Realistic optimism about the larger future would also serve us well.