Psychological bias is making decisions that go against logic. For example, you might make selective use of data, or you might feel pressured to make a quick decision by your family and agents. Psychological bias is the opposite of clear, measured judgment and leads to missed opportunities and poor decisions. Bias often comes from subconscious thinking. For this reason, it is unwise to make major decisions without discussing them with other unbiased people.
Here are ﬁve common psychological biases that can lead us to make bad real estate decisions.
Conﬁrmation bias is one of many psychological biases of which we all are susceptible. Imagine you’re thinking about selling your home. Your neighbor sold their home for an unbelievable price per foot and you think yours is worth at least that much or more. As part of your research, you ﬁnd homes with a price per square foot that supports this belief. As a result, you list your home and the listing fails to sell. There were fewer showings than you expected. You end up selling for less or fail to sell.
In this scenario, your decision was affected by conﬁrmation bias. You interpreted market information in a way that conﬁrmed your desires—instead of seeing it objectively—and you made some wrong decisions as a result.
Conﬁrmation bias happens when you subconsciously look for information that supports your existing beliefs. This can lead you to make biased decisions because you don’t factor in all relevant information. Here are some everyday examples of confirmation bias in real estate.
- You rely on unrealistic value measurements such as the Tax value and Zestimate.
- You assume the price per square foot value stays the same no matter how large the home is.
- You believe improvements are worth what you paid for them.
- You look at the offer price as a measurement of sold price.
- You ignore similar homes that sold for a lower price.
- You ignore defects and bad features.
To avoid conﬁrmation bias, challenge yourself about what you think you see. Use empathy and put yourself in the shoes of the buyer or seller. Seek information from a range of sources, and consider situations from multiple perspectives. Alternatively, discuss your thoughts with others: Surround yourself with a diverse thinking group of people, and don’t be afraid to listen to dissenting views.
This is the tendency to base your ﬁnal judgment on information gained too early in the decision-making process. For example, when negotiating on price, the initial price offered, even if it seems ridiculously high, could shape the price you end up paying. Think of this as a ﬁrst impression bias. Once you form an initial picture of a situation, it could be hard to see other variables. For example, the home you are interested in is offered for $200 per square foot. You negotiated it down to $190 per square foot thinking its a great deal. Comparable homes are selling for $180 and below. You believe you have a great deal and ignore potential problems.
Overcome the risk of anchoring affecting your judgment. Ask yourself “Have I rushed to judgment?” Ask for more time if you feel pressured to make a decision. In our seller’s market, everyone is telling you to act fast or you will lose the deal. Use your option period to re-evaluate every aspect of your new home and re-negotiate or terminate if it is not the right home for you. Every buyer should have a list of pluses and minuses, must-haves and deal killers. Stick to your list to anchor your judgment. Home buying is a process, refine your list to make it more realistic as you go through the journey. Eventually, you’ll know the right home when you see it and you can act quickly with confidence. Don’t forget another great house will come along if you don’t get this one.
This occurs when you place too much faith in your own knowledge and opinions. You believe that your contribution to a decision is more valuable than it actually is. You might combine this with anchoring bias, meaning you act on hunches and have an unrealistic decision-making ability.
To overcome this bias, consider your sources of information. Are they fact-based, or do I rely on hunches? Am I relying on prior successes and ignoring failures? If you suspect that you are, gather more objective information. The most common overconfidence bias in real estate is believing the market will continue in the same direction forever.
With the gambler’s fallacy, you expect past performance to be an indicator of future performance. The classic example is a coin toss: If you get heads ten times consecutively, you might assume that there’s a higher chance you’ll toss more tails in the next ten times. The longer the run, the stronger your belief may be that things will change or stay the same. Of course, the odds are always the exact same at every toss.
The gambler’s fallacy can be dangerous in real estate. Your four previous flip did well, and you plan to make many more and larger flips. In fact, outcomes of flipping home are risky and uncertain, and the number of successes has little bearing on future performance. Don’t let the gambler’s fallacy lull you into other psychological biases.
To avoid the gambler’s fallacy, make sure that you look at trends and evaluate risk objectively on both micro and macro levels. Develop a realistic view of what the future may hold. Look for trends in the market, such as changes in affordability or wider economic and political circumstances. We often say the devil is in the details. Don’t overlook warning signs that aren’t evaluated. Spend an extra $300 to test underground plumbing or risk blowing your budget.
Fundamental attribution error
This is the tendency to blame others when things go wrong instead of looking objectively at the situation. In particular, your angry that things haven’t worked out and you are looking for scapegoats.
For example, your home does not sell and you believe it is your agent’s fault. Don’t forget the market speaks. The price must entice. If you listed your home in MLS and all the internet sites it’s been fully exposed in the market. All interested agents and buyers have seen it. Your goal is to figure out why they didn’t like it. It’s essential to look at your situation and reﬂect objectively on your own behavior and that of others.
Sometimes when discussing big decisions my wife will say “Is that a silent prayer?” It’s a nice way to point out bias thinking.
Derived from Mind Tools for Managers by James Manktelow and Julian Birkinshaw.