Behavioral finance FAQ / Glossary (Illusion)

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Dates of related message(s) in the
Behavioral-Finance group (*):

Year/month, d: developed / discussed,
i: incidental

(Cognitive) Illusion

See fallacy, perception, belief,
framing, delusion

Mirages, optical illusions, conjurer tricks,

this can be fun ...or can hide decoys.

And although dreams and reveries are good
for your mind and your health,

Don't let them become traps !

Definition

An illusion is a fallacious

  perception (sensorial illusion),

  or representation (framing),

 or intuition

  or belief.

An illusion can be:

Either

Or

 Individual

collective.

About oneself

(self-illusion / delusion, see
illusionof competence...)



About an  external
situation
or an external
prospect
(over-optimism....).

Cognitive
( misperception
/ misrepresentation /
memory flaw)

Emotional (aiming at
compensating pains or
reproducing pleasures).

Love or hate can blind
the mind.

Self generated


Manipulated
(deception)

Illusion of competence, experience, knowledge


03/1i,2i - 04/3i + see self
attribution, overconfidence,
magical thinking, narcissism,
pseudo-certainty

Mister Knows it all.

Genius inside!

Definition

The (self-) illusion of competence,
experience, knowledge

is a mental bias. When it strikes us we might
overestimate
our ability and information.

This form of "self-attribution bias" makes us overconfident
(see self-attribution, overconfidence).

What effects?

Less rosy than expected in the dream.

That kind of illusion is found in many life situations.

It can strike for example economic and financial behaviors.

It might be benign, even helpful as it can avoid passivity by pursuing a
"dream".

Or it can contribute to dire excesses, changing the dream into a nightmare.

In that case it can lead to make highly risky decisions and
to be blind about their possible disastrous
effects.

Is incompetence not enough?

I mean, does illusion upgrade ordinary incompetence...
...to perfect incompetence?


Ignorance, inexperience or incompetence are in themselves obstacles
to decide soundly.

Hard to see how illusion adds to the problem! ;-)

Precisely, things get worse when the decider believes
he has
no deficiency or is smarter than the
average guy
(and what the base rate probabilities tell)


An illusive belief or feeling telling us that our knowledge or reasoning is
not deficient freezes any search to correct what we lack to make sound
decisions.

To know what we lack can help to find how to compensate (*) it.

"The enemy of knowledge is not ignorance
but the illusion of knowledge"
.

Same thing for competence, experience...

Self-illusions / delusions can lead the player at the same time

* to underestimate the difficulties of the situation

* and to overestimate its own abilities.

Those beliefs (or just a lack of conscious appraisal) are among the sources 
of dangerous biases such as overconfidence, self admiration, narcissism
and/or magical thinking.

(*) Of course, when the lack of time or means cannot
be compensated, and it is anyway necessary to choose
a course of action, we might better improvise and
act
instead of staying passive.

But with the provision that we know our own

limitations and ... fancies.

Shared illusions

Let us dream together!

Not only individual people can have self-illusion as groups,
crowds, organizations and societies also are prone to it and can
easily become blind and arrogant.

People find within groups an impression of strength and 

safety against the outside world.

This occasional or permanent dependence might make them abandon
some of their personality and lucidity within the apparent, and sometimes
addictive, comfort found within the group.

Scope and origins of those biases

What is missing? What is too much?


About everybody has some illusions
about its own abilities and tends to
show overconfidence in some areas
(and maybe under-confidence in others).

A small dose of overconfidence might be useful,
if not many initiatives would be frozen. As always
the issue is a matter of degree.

The problem arises when those illusions are
excessive and recurrent.

Such "oversized" personal (or collective) illusions might have various origins.
Let us quote a few:

Personal inadequacies

An imbalance, one way or the other, between the

person's (or group's) formal learning and its practical
experience
.

They are usually both needed and each one reinforces
the other.

If one side is too light, the boat capsizes.

A mental laziness that prevents also to
    dig deeper,
thinking we know enough or understand enough

(see availability heuristic),

Misinterpreted experience

For example a recent streak of prior successes.

Let us take asset markets as examples:

A successful player can get a wrong feeling of infallibility...

...even when its successes were caused by pure luck,

or just because the market was bullish and nearly everybody 
made money.

Conversely, when things turn bad, a trader might attribute it
    to bad luck.

Thus it will neglect to examine things further to detect
if it made mistakes and to correct them in the future,

Personal illusive tendencies

A belief that intuition or instinct is enough to take  

always wise decisions (see pseudo-certainty),

Some ingrained or long developed narcissist
    tendency
(see narcissism),

Self-delusion, magical thinking (see below the
    "illusion of control" article).

Avoiding the pain of uncertainty by trusting self-made
    explanations / beliefs.

Illusion of control

See magical thinking,
luck, overconfidence,
narcissism, base rate

The demi-god syndrome

The illusion of control is a belief close to magical thinking and narcissism,
by which people think that:

A good star is with them, that luck is on their side at the casino
   or
the lottery, and they can neglect the "base rate statistics".

And/or they have the mental capacity to influence events and run
   the show.

Or (a combination with the illusion of competence) they are so good that
   they
are apter to succeed than most other people.

   They neglect that unluck, or the Murphy law, or plain probabilities can
    thwart their brilliant plan.

Consequences

Blind driver


The illusion of control does not make safe driving. More generally:

Like the illusion of competence it can lead to
   overly risky decisions

(for example, in investment, to concentrate a
big stake on only a few stocks).

Also, when the outcome is unfavorable, in can lead to
   
see the failure as an  occasional luck reversal instead
    of  analyzing why things went wrong so as to avoid
    to make again the same mistakes.

(*)To find those messages: reach that BF group and, once there,
      1) click "messages", 2)
enter your query in "search archives".

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This page last update: 25/07/15  

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