Polls / August 22, 2011

If you make a successful investment, are you likely to do the same again?

Fifty-nine percent of respondents to the latest eZonomics online poll are likely to repeat an investment that has been successful in the past.

What are the chances?
If we make a successful investment, it might be tempting to try it again. But stop for a moment and consider the behavioural economics idea of the “gambler’s fallacy”. This is the idea that we have a tendency to think future probabilities are altered by past events. A classic example involves a coin toss. If we have flipped heads ten times, we might think tails is more likely on the eleventh try. In reality, the probability of getting tails remains 50:50.

Don’t put too much emphasis on past performance
How does this apply to investing? An investor deciding whether to buy gold might look to how the precious metal has performed in the past as a guide. Past performance can play a role but it is not the be all and end all – under the gambler’s fallacy, people might put too much emphasis on past performance. In a similar way to shares and other investments, a range of factors influence the price of gold. Be wary about taking past climbs as a reliable guide to how the price will move in the future.

The eZonomics story Where next for gold price? cites a paper by former International Monetary Fund chief economist Kenneth Rogoff in which he says “it is dangerous to extrapolate from short-term trends”.

InvestingBiasGoldGambler's fallacy