Remember, remember…

Academics are increasingly interested in how our memories influence our investment decisions and financial biases. I have written about some of these effects before (e.g. here and here), but what I find interesting about the new research by Giovanni Burro and his colleagues is that it shows that it is specific and salient memories that influence our investment decisions rather than the collective memories (aka ‘experience’) we have.

To do this, they invited 295 students into a lab and gave them £3 as an incentive. They then asked them to invest some or all of that money and whatever the result of their investment decision, they could take the money they had left home.

The first of these experiments tested the influence of memories on investment decisions. Half the participants were asked to write down a specific memory they had about the stock market and rate whether that was a positive or negative memory. Once they had done that, they were asked to decide how much to invest in shares of a car manufacturer. The control group was first asked to decide on their investment and then asked to write down a specific memory they had about the stock market.

The chart below shows that compared to the control group, people who remember positive things about their interaction with the stock market just before the investment invested more (about 25% more, in fact). People who remembered negative or neutral interactions with the stock market invested less (about 28% less).

Impact of memory elicitation on investment

Source: Burro et al. (2024).

It matters for our investment decisions if we have a memory of a good or bad experience.

But it also matters if this memory is of a personal experience or a more distant, impersonal memory. In a second experiment, they asked people to write down a memory of the stock market they had. After that, half the participants were given information about the car manufacturer and analyst share price expectations.

The interesting effect visible below is that this information did not change the investment decision of people who had personal memories of their interactions with the stock market, no matter whether these memories were positive or negative. In other words, our personal experiences make us ‘immune’ or rather less receptive to expert advice. We think we know best because we have first-hand experience with the situation.

But people who had no personal memories of the stock market were much more willing to follow expert advice. Since the information about analyst consensus in the car manufacturer was positive, these people were investing much more in the stock after being given the information than people who were not provided that information. In the absence of meaningful personal experience, they were inclined to follow the professionals.

Personal memories and expert advice

Source: Burro et al. (2024).

The subjects in this lab study were students, but my personal experience and the memories I can elicit as I write these lines tell me that both retail and professional investors are likely to be subject to similar effects.

That is why the best fund managers and investment professionals emphasise the importance of an investment process. It is the best tool to keep these mental shortcuts and biases in check. Because no matter what we do, we can’t help remembering past experiences with specific stocks or funds. I know every time I am analysing a stock that I previously owned I involuntarily think of whether that stock has made me money in the past or not. And guess what, this skews my investment decision.