Chapter 6 

Anchoring Bias
Prepared By : DR. Wael Shams EL-Din
Cognitive Biases
Cognitive Biases
Information Processing Errors  Belief  Perseverance errors  
1.Cognitive dissonance Bias
1.Framing Bias
2.Illusion of Control Bias
2.Anchoring Bias 3.Self attribution Bias
3.Mental Accounting Bias 4.Conservatism Bias
5.Overconfidence Bias
4.Availability Bias
6.Confirmation Bias
              FAMA  7.Ambiguity aversion Bias
8.Representativeness Bias
9.Hindsight Bias
10.Recency Bias
CISCO CAR HR
What is Anchoring?
 Anchoring is the use of irrelevant
information as a reference Point for
evaluating or estimating unknown
value.
 In the context of investment , one
consequence is that market
participants with an anchoring bias
tend to hold investment that have
lost value because they have
anchored value in their mind rather
than the fair one .
 As a result, investor will accept
greater risk by holding the
investment for long time in the
hope of the security will go back to
its purchase price.
Illustrations of Anchoring Bias
 Suppose you are asked whether the population of Canada is
greater than or less than 20 Million. Obviously, you will
answer either above 20 million or below 20 million.
 Later , If you were asked to guess an absolute population
value, your estimate would probably fall somewhere near to
20 million, because you are likely subject to anchoring by
your previous response.

Also investors can become anchored on the economic

conditions of certain Countries or Companies
Countries/Companies Anchoring 
 Investors can become anchored on the economic conditions of
certain Countries or Companies.
Countries Anchoring 

In the 1980s, Japan was an economic center of the world, and

many investors believed that they would remain so for many
decades. Unfortunately for some reasons Japan deteriorated
for years after the late1980s and investors still believe so.

Companies Anchoring 

IBM was a pioneer stock for decades, Some investors became

anchored to the idea that IBM would always be a leader of the
market. Unfortunately for some reasons , IBM didn't remain as
a leading stock.
Case Study 1
 Suppose Alice owns stock in ABC Corporation, She is a fairly
smart investor and has recently discovered some new information
about ABC. Her task is to evaluate this information for the
purpose of deciding whether she should increase, decrease, or
simply maintain her shares with ABC. Alice bought ABC two
years ago at $12, and the stock is traded now at $15.
 Several months ago, ABC stock reached $20, at which time Alice
expected selling the stock but did  NOT. Unfortunately, ABC
stock then dropped to $15 after executives were accused of faulty
accounting practices. Today, Alice feels that she has “Lost” 25%
( 5/20x100) of the stock’s value, and she would prefer to wait
and sell her shares once price return back to $20.
 On the other hand, the company has a solid business, and Alice
wants to earn the 25% that she feels she lost. What should Alice
do?
Analysis of the Case Study 1
 A Rational investor would examine the company’s financial
situation and make an objective assessment for the share
intrinsic value and then decide to buy , hold, or sell the
shares.
 On the contrary, some investors once their shares dropped
in price , their rational analysis disappear and replaced by
cognitive errors, matter will lead to wrong judgment.
 Alice, for example, disregard the results of her research and
“Anchor” herself to the $20 and refuse to sell unless ABC
reach $20 again.
 This type of response reflects an irrational behavioral bias
and should be avoided.
Case Study 2
 Suppose you have decided to sell your big house and acquire smaller
townhouse that you have been looking for several years. you do not feel
extreme urgency in selling your house; but the taxes are eating into your
monthly cash flow, and your real estate agent want you to unload the property
as soon as possible in order to sell it .
 Your real estate agent, whom you have known for many years, evaluate your
home at $900,000- you are shocked since you paid $250,000 for the home
only15 years ago, and the $ 900,000 figure is almost too exciting to believe.
 Finally you decided to place the house on the market and wait a few months,
to sell it but you didn't receive any request. One day, the real estate agent
arrives, and informed you that Pharma Growth company which is located in
the same city has just declared bankruptcy and Now, around 7,500 people are
out of work.
 Your agent has been in meetings all week with his colleagues, and together
they estimate that local real estate prices have taken a hit of about 10 %
across the board. Your agent tells you that you must decide the price at which
you want to list your home, based on this new information.
Questions on Case Study 2 
Assume your house is at the mean, in terms of quality and 
salability. What is your possible course of action? 

1. You decide to keep your home on the market for $900,000.

2. You decide to lower your price by 5 percent, and ask $855,000.
3. You decide to lower your price by 10 percent, and ask $810,000
4. You decide to lower your price to $800,000 because you want to be sure
that you will get a bid on the house.
Test Results Analysis
 If you select answer (1or 2) this mean you have a tendency
toward either anchoring and adjustment bias.
 Remember that real estate prices here have declined by 10
%, If you wants to sell your home , clearly you must lower
the price by 10%.
 Resistance to an adequate adjustment in price can stop
selling the property as you are anchored to the $900,000.
 Anchoring bias harms your ability to add updated
information, This behavior can have significant impact in
your investment decision.
Anchoring Bias & Investment 
Mistakes
Investment Mistakes (1) & Mitigation 
Investors Tend to Make  Mitigation
General Market Forecasts That 
are too close to current Levels
For instance, if the Dow Jones
Industrial Average (DJIA) is at
10,500 points, investors are likely
to forecast the index in a way
narrower than what might be
suggested by historical
fluctuation.
Investor inclined to anchoring
might forecast DJIA between
10,000 and 11,000 at year-end,
versus making an absolute
estimate based on historical
rational analysis.
 
Awareness is the best mitigation to
anchoring and adjustment bias.
Encourage client to ask themselves
“Am I analyzing the situation
rationally, or am I holding out to
attain an anchored price?”
When making forecasts about the
direction of markets or individual
securities, ask yourself: “Is my
estimate rational or am I anchored to
last year’s performance figures.
Taking these actions will remove
any anchoring and adjustment bias
that might take hold during asset
sales or asset reallocation.
Investment Mistakes (2) & Mitigation 
Investors tend to stick too closely to  Mitigation 
their original estimates When New 
Information is Learned about a  
Company  Awareness is the best mitigation
For example, if an investor to anchoring and adjustment bias
expecting that next year earnings is $2 Encourage client to focus on
Per share and the company didn't analyzing the situation rationally,
make it. The investor may not When making forecasts about the
readjust the $2 figure enough to earning per share.
reflect the change because he or she is Encourage client to adjust his
“anchored” to the $2 figure.
calculation based on Information
Provided.
This is not limited to downside
Taking these actions will remove
adjustments-the same phenomenon
occurs when companies have upside any anchoring and adjustment bias.
surprises.
Investment Mistakes (3) & Mitigation 
Investors Tend to Make a Forecast  Mitigation
of the Percentage That a Particular 
Asset Class Might Rise/ Fall Based 
on the current Level of Returns
For example, if the DJIA returned
10% last year, investors will be
anchored on this number when
making a forecast about next year.
 
Awareness is the best mitigation
to anchoring and adjustment bias
Encourage client to focus on
analyzing the situation rationally,
When making forecasts about next
year rate of return.
Encourage client to adjust his
calculation based on Information
Provided.
Taking these actions will remove
any anchoring and adjustment bias.
Investment Mistakes (4) & Mitigation 
Investors can become anchored on  Mitigation 
the economic states of certain
countries or companies
Awareness is the best mitigation
For example, in the 1980s, Japan to anchoring and adjustment bias
was an economic powerhouse, and Encourage client to focus on
many investors believed that they analyzing the situation rationally,
would remain so for decades. When making decisions about
Unfortunately for some, Japan specific country or specific stock.
stagnated for years after the late Encourage client to build his
1980s.
decisions based on new
Similarly, IBM was a pioneer stock
information in the market , not old
for decades. Some investors became
one.
anchored to the idea that IBM would
Following these actions will
always be a pioneer . Unfortunately
for some, IBM did not last as a remove any anchoring and
pioneer stock. adjustment bias.
Anchoring Bias in Brief
 Item   Explanation
 What  Remain anchoring to an initial value ( expected price ,
forecast ) and the change +/- from that anchor
 Usually this change is not enough due to the drag of the
anchor
 Anchoring and adjustment is very similar to conservatism
bias, so anchoring and adjustment are related to specific
number.

 Consequences  Fail to adjust forecasts enough due to interpreting new

information around the anchor
 Mitigation  Awareness is the best mitigation to anchoring
 Encourage client to build his decisions based on new
information in the market , not old one
 Encourage clients to ask themselves “Am I analyzing the
situation rationally, or am I holding out to attain an anchored
price?
Thank You