Perceived Risk and Reward Affects Your Investment Strategy
What’s the most dangerous way of traveling? The first thing that popped up in my mind was flying because of the accidents reported in the news. However, this doesn’t stop us from traveling because the perceived risk of happening something to us is low when we enjoy doing something. Ian Savage revealed that flying is one of the safest options despite our instincts. Below there is a graph.
How effect plays its part
Research of Finucane, Alhakami, Slovic and Johnson indicates that how we feel about an activity affects our judgment of perceived risk and reward. The more we like something, the more likely we are to misjudge. This finding implies why many investors prefer an untested stock that seems popular because of the possible upside and less possible downside. Whereas a familiar company with a proven track record is perceived as high risk and high reward.
According to the results, we make decisions not only based on what we think about something but also how we feel about it. This makes it very difficult to make an unbiased decision as an investor about companies.
