3 – Common Biases

• Why do we rely on rule of thumbs

• Time pressure
• Laziness
• Heuristics help us to
Reduce the effort we must put in a decision by allowing us to examine fewer
pieces of information
How?
• What about managers
• How do we develop heuristics
• Could our heuristics be different from each other
• Think….
• Inappropriate use of heuristics…..
Availability Heuristics
Bias 1:
• Deaths by
• Wars
• Famine, starvation
• Cancer
• Lungs disease
• Respiratory infection
Bias 1
• Life decisions affected by vividness
• The shoe checking at the airports
• What can this lead us to do
• The Tversky Kahneman study – which gender
• Implications
• Supplier decision based on familiarity
• Performance appraisal
• Vivid instances most likely to be recalled – the recency effect
Bias 1
• Assessing our own assertiveness – Schwarz 1991
• The study to think of examples to demonstrate assertiveness
• 6 examples
• 12 example

• The prison study

• Implications
• Work life
• Employees
Bias 1
• The purchase of insurance
• Our behavior
• Does disaster type effects?

• What can we learn

• As someone employed in insurance industry
• As consumer of insurance policies
Bias 1: Ease of Recall
• Process of judging frequency by “the ease with which instances come
to mind”
• The availability heuristic basically substitutes one question for
another
• Substitution produces systematic error.
• Awareness of our biases can help lower our expectations
Bias 2
Estimate the frequency of seven letter words that had the letter “n” in
the sixth position

Estimate the frequency of seven letter words ending in the three letter
“ing” sequence
Retrievability (Based on Memory
Structure)
Implications of memory structure:
Relying on social networks to identify potential employees
The world structures itself according to the search strategies (Memory
structures)
For example: the location of pharmacies
Availability heuristics
• Can lead us to systematic errors. We assume that our available
recollections are truly representative of the larger pool of events that
exists outside of our range of experience
Representativeness
Heuristics
• Kahneman Tversky study in 1972
Lisa is 33 and is pregnant for the first time. She is worried
about birth defects such as Down syndrome. Her doctor
tells her that she need not worry too much because there is
only a 1 in 1,000 chance that a woman of her age will have
a baby with Down syndrome. Nevertheless, Lisa remains
anxious about this possibility and decides to obtain a test,
known as the Triple Screen, which can detect Down
syndrome. The test is moderately accurate: When a baby
has Down syndrome, the test delivers a positive result 86%
of the time. There is, however, a small “false positive” rate:
5% of babies produce a positive result despite not having
Down syndrome. Lisa takes the Triple Screen and obtains a
positive result for Down syndrome. Given this test result,
what are the chances that her baby has Down syndrome?
Ignoring the base rates
• We understand the relevance of base rate information
• But we tend to disregard such data when individuating data are also
available

• Consequences
• Entrepreneurs
• Grades consideration during admission
• Punishing people for bad outcomes when the outcomes were largely a
function of chance
Bias 4
• A study of the incidence of kidney cancer in the 3,141 counties of the
United States reveals a remarkable patter. The counties in which the
incidence of kidney cancer is lowest are mostly rural, sparsely
populated, and located in traditionally Republican states in the
Midwest, the South and the West. What do you make of this?
Bias 4
• A study of the incidence of kidney cancer in the 3,141 counties of the
United States reveals a remarkable patter. The counties in which the
incidence of kidney cancer is highest are mostly rural, sparsely
populated, and located in traditionally Republican states in the
Midwest, the South and the West. What do you make of this?
Bias 4: Insensitivity to sample size
• System 1 effortlessly identifies causal connections between events
• A random event, by definition does not lend itself to explanation
• Drawing 2 red and 2 white marbles vs 4 red or 4 white
• 4 draws vs 7 draws
• Extreme outcomes
Bias 4: Insensitivity to sample size
• The school districts study
• The sample showed smaller schools performing better – conclusion
• Open up smaller schools
• When small schools were a mere 4% of the total schools
• Large samples are more precise than small samples
• Small samples yield extreme results more often than large samples do
• Italian national lottery and no 53
Bias 5
• BBBGGG
• GGGGGG
• BGBBGB

• Are the sequences equally likely

• We are pattern seekers

• Consequences
• People see patterns where none exists
Bias 5: Misconceptions of chance
• When people observe events in the world, they often perceive them as
binary sequences occurring over time
• People’s beliefs about future events affect important decisions and
behaviors
• long history of studies of judgments about events produced by random
mechanisms such as coin tosses, roulette wheels, biological birth
processes and basket ball shooting
• In studies of both random mechanisms and skilled sports performances,
people’s judgments and their underlying beliefs depart systematically
from the actual patterns observed in both types of sequences.
Gambler’s fallacy or Negative
Recency
• We expect shorter streaks
• a person tends to believe that the chance of getting a tail on a coin
toss increases after three heads have appeared on the previous
tosses, despite the fact that each toss is independent of the other
tosses and the probability of a head is constant at .50, regardless of
previous outcomes
Streaks or positive recency
• Hot hand fallacy
• people believe that a basketball player’s chances of making a shot are
higher if the player has just made the previous three shots than if he
had missed or had mixed success on the previous three shots
• Random trials or Bernoulli’s trials
• if each event (or variable) has the same probability distribution as the
others and all are mutually independent
• p(A) of a Bernoulli sequence should be close to .5 when the binary
outcomes are equiprobable
• Participants were usually instructed to imagine a series of fair coin tosses to
illustrate the concept of randomness
• The general conclusion from several dozen behavioral studies is that people
do not have a statistically correct concept of random i.i.d. sequences
• In almost all the studies reviewed, participants perceived sequences with
p(A) = 0.6 as most random
• The researchers found that the participants classified sequences with many
alternations as random (unless the alternations were excessive) and
associated sequences with long streaks and symmetrical patterns (e.g.,
cyclic or mirror patterns) with nonrandomness
Bias 6
• Rewards for improved performance work better than punishment of
mistakes

• The landing fallacy

• Talent + luck

• Success = talent + luck

• Great success = a little more talent + a lot of luck
Player Day 1
Justin Rose 65
Adam Scott 70
Rory  Mcllroy 68
Jason Day 70
Amdrew Putnam  73

Day 1: above average score on day 1 = above average talent + lucky on day 1

Day 1: below average score on day 1 = below average talent + unlucky on day 1
Player Day 1 Day 2 Day 3 Day 4
Justin Rose 65 70 68 74
Adam Scott 70 69 71 68
Rory  Mcllroy 68 69 70 72
Jason Day 70 73 70 69
Amdrew Putnam  73 71 73 69
Bias 6: Regression to Mean