Interview transcript

By Marie-Ange Nodar

How did you come up with the idea for Neuroprofiler?

Initially attracted by management, I studied at a business school, and at the same time, in response to my attraction to cognitive science, I obtained a Master’s degree in cognitive science. My thesis in behavioral finance is to some extent the convergence of these two, and I wanted it to have an application in the business world.

After this behavioral finance thesis, and while I was working in private banking and econseil, I was commissioned to work on compliance issues, in particular MiFIDII. In this way, I found a concrete use case that could really help banks in the short term to improve their processes through behavioral finance.

Could you introduce us to the Neuroprofiler concept?

The Neuroprofiler concept is to use both gamification and cognitive science in three areas:

• Investor profiling
• Financial product recommendation
• Financial education for individuals

What is behavioral finance?

The aim of behavioral finance is to take all the research in psychology, and apply it to finance. For example, to anticipate investor behavior, to model it, or even to predict it.

There are several techniques for measuring investor behavior. Broadly speaking, there are two types of technique:

• Using existing data: we’ll see how an investor has behaved to deduce his or her biases.
• Asking the investor questions: this is the technique we use at Neuroprofiler. We ask the customer questions, putting him or her in an investment situation, in particular as part of investor profiling. Based on their behavior during this questionnaire, we can deduce their behavioral biases and risk profile.

What types of financial institutions or investment professionals can benefit from using Neuroprofiler?

Our structure is BtoBtoC: we sell our solutions to financial institutions, which then make them available to their customers. These may be private banks, retail banks or asset managers.

Our priority market is Europe, with 70% of our customers outside France. We also have a customer in the United States, and prospects in Asia. We intend to expand outside Europe.

How do you measure the benefits you bring?

The three added values we offer our customers are :

• Compliance: our three solutions are fully compliant with the expectations of European, Swiss and British regulators. Some of our customers have been successfully audited by local regulators. In fact, we have obtained a partnership with “Price”, which has been able to audit our solutions. Finally, we have a privileged relationship with the regulators, whom we meet frequently. This enables them to follow the development of our solutions, and to tell us whether or not they are in line with their philosophy.
• Diversification of customer portfolios: thanks to profiling, and in particular risk profiling, we are able to promote greater risk appetite. Generally speaking, people tend to underestimate their risk appetite using conventional methods. On the contrary, we’re going to emphasize more risk appetite. With financial education, we give an opportunity to customers who, under MiFID regulations, only have access to simple products because their knowledge doesn’t allow them to access more. By training them, we open the way to more diversified products. Financial education and behavioral finance enable a bank to sell more products to its customers. To give a few figures, among our existing customers, we have been able to increase the number of risk-averse profiles from 20% to 40%.
• Customer satisfaction, customer loyalty: on average, we are given an 80% preference for our questionnaire over the classic ones. This highlights a better immediate customer experience thanks to gamification. What’s more, the fact that we’ve been recommended a product that suits our needs helps to build long-term customer loyalty.

What are your next steps?

We hope to be able to develop our three modules first in Europe, and then outside Europe, because although we comply with European regulations, they are very similar to those in other countries.

We have a real vocation to expand internationally. As we continue to grow, we are naturally increasingly recognized outside Europe, and therefore in demand.
And of course, we’re going to continue enriching our current modules, particularly with all the behavioral prediction stuff. We’d like to combine these two approaches: the use of data based on investor behavior, i.e. rooted in real life, and the collection of data from questionnaires.

By exploiting the data a bank is able to provide us on investors, and cross-referencing it with what we’ve been able to gather from our questionnaire, we could be even more refined in predicting their behavior and the advice we could give them.

L’article Interview transcript FinMag: Tiphaine Saltini about behavioral finance est apparu en premier sur Neuroprofiler.

Decision-making, including in the financial sphere, is largely modulated by automatism and the unconscious. Neuroscience (and neurofinance) is essential for studying the stages of decision-making that affect the subject’s unconscious choice.

Factors linked to the presentation of visual information (color, location), rather than content, can be decisive in choice.

What is neurofinance?

As a relatively new discipline, neurofinance combines finance, neuroscience and psychology to advance theories and knowledge related to decision-making. The majority of neural processes that guide choices, including economic-financial ones, are automatic and unconscious by nature, and are therefore difficult to assess via self-evaluation.

Neuroscience offers research methods such as functional magnetic resonance imaging, electroencephalography, eye-tracking and facial expression recognition, which can shed light on the neural mechanisms of economic-financial decision-making. 

Decision-making and the limits of the human brain

Decision-making is a cognitive process that can be defined as “the ability to select an advantageous response from a set of available options”.

Whatever the domain involved (from the purchase of consumer goods to the response to an election, via the selection of financial products), human beings have to deal with cognitive resources, knowledge and, sometimes, limited time availability. Hence the need to “filter” information.  Indeed, our brains quickly navigate between those deemed most relevant to the final decision and those that are more detailed.

In general, the number of stimuli is so high that it is impossible to process each one systematically. The functional limitations of the human brain make it impossible to construct an effective behavioral response to every stimulus received. At the physiological level, therefore, the need arises to select the sensory stimuli to be taken into account in order to organize and stimulate behavioral responses that are congruent and effective.

In this sense, all stimuli continuously collected by the sensory system and transferred to the brain undergo selection before being processed. The mechanism that enables a stimulus to overcome this selection, to the detriment of others that are inhibited, is that of selective attention: a process that is mainly automatic and partly voluntary.

• In its automatic phase, it can be linked to the intrinsic characteristics of the stimuli derived from the observed sources. For example, shape, color, location or clutter.
• In the will phase, on the other hand, motivational aspects dominate. In other words, the individual’s objectives and expectations.

Decision-blocking in the financial sector

The financial sector offers a wide range of financial products and services, accompanied by information and documentation. As a result, investors are continually exposed to financial information and are often confronted with problems of information overload.

To increase transparency and promote consumer protection, financial authorities are introducing succinct disclosure documents that present the main features of products. This enables consumers to assess their quality.

These summaries are standardized throughout Europe, as consistency facilitates comparison, which can improve decision-making. Validation of information documents is generally carried out by combining qualitative interviews with quantitative surveys of consumers, who are asked to comment on the clarity of the information they receive.

Research in neuroeconomics suggests the possible limits of self-reported measures, and calls for the evaluation of decision-making by combining economics and finance with neuroscientific theories and methodologies. 

How can attention process be studied using neurofinance and decision-making approaches?

In recent years, a number of researchers have begun to study a specific stage in the decision-making process. Namely, the processing of visual information, using the non-invasive technique of eye-tracking.

Capturing the visual attention process with eye-tracking

The brain constantly receives stimuli from the environment, which are selected by automatic processes, then processed and interpreted. In the case of visual stimuli, the first motor reactions set in motion by the brain involve activation of the eye muscles: the gaze is thus fixed, “focusing” images of objects/phenomena deemed “relevant”, while those identified as “background noise” are excluded from processing.

It can be argued that eye movements are indicators of attentional processes, and that their evaluation enables us to predict which information most influences the final decision.

With the eye-tracking method, the minute movements made by the eyeballs while an individual is observing a controlled visual stimulus (an image or a document) are measured non-invasively, safely and objectively: we thus obtain a series of quantitative parameters, such as background noise level, background noise intensity, duration of exposure, and so on.

Some studies on the visual attention process in neurofinance and decision-making

In some research carried out by BrainLine on investment products described by the Key Investor Informational Document (KIID) (Ceravolo et al. 2019, 2020), it was observed how the layout and color of information documents affect the allocation of attention and the perception of product attractiveness by the subjects interviewed. In a succession of visual or auditory information, the position occupied by a stimulus represents a significant factor in the probability of it being considered as the object of attention, and deserves to be taken into consideration.

The anchoring effect is the phenomenon whereby individuals attribute a determining value (with a view to subsequent decision-making) to the first or last (the anchor) in a set of information (Turner & Schley, 2016). Numerous studies testify to the use of anchoring even when making decisions in real estate (Lambson et al. , 2004) or finance (Baker et al. , 2016; Dougal et al. , 2015).

In a recent study (Ceravolo et al. , 2021), BrainLine researchers investigated the role of anchoring in subjects’ assessment of the attractiveness of current account prospectuses by reading and evaluating a piece of information (Fee Information Document – FID). The aim of the FID, introduced by the Payment Accounts Directive, is to improve the transparency of charges and information relating to current accounts. 

The study, carried out on 70 cases, confirmed the tendency of respondents to anchor their judgement of product attractiveness to the information presented in the top left-hand corner (in this case the annual fee), neglecting other elements and thus making unprofitable decisions in many cases. Subjects with low levels of financial education were more likely to use the anchoring heuristic, basing their decisions on biased assessments of available information.

Decision-making processes, algorithms and advisors: who can we trust?

To cope with the abundance of information and its growing complexity, individuals often decide to rely on operators in the banking and financial sector. Numerous researchers have studied the appearance, personality and behavioral characteristics of financial advisors, which influence consumers’ willingness to follow their advice.

In finance, no study to date has investigated the advisor’s influence on subjects’ visual attention mechanisms and the likelihood of them accepting the advice they receive.

A recent study (Fattobene et al., 2022) attempted to fill this gap by assessing the distribution of visual attention. Subjects analyzed a pre-contractual information document on a consumer loan application (the Standard European Consumer Credit Information – SECCI), while alternately receiving advice from a human operator or an algorithm.

It was observed that attention to specific interests (notably those related to costs) was modulated by the type of advisor. Subjects show a different distribution of attention, and in particular of costs, when the advice to buy the product is provided by a human rather than an algorithm. The different attention mechanisms according to advisor type are followed by a different tendency to trust the algorithm, depending on whether the contract conditions are objectively advantageous or disadvantageous.

Neurofinance and decision-making: edited by Maria Gabriella Ceravolo, Gianmario Raggetti, Lucrezia Fattobene, translated and adapted by Neuroprofiler. 

L’article Neurofinance and decision-making est apparu en premier sur Neuroprofiler.

Do you want to have an impact in your investments? What is your financial situation? What is your risk appetite?

If we are asked this kind of questions more or less directly in a traditional questionnaire, it is unlikely that our true preferences will be captured. Why?

The limits of traditional questionnaires

1. Some of our preferences are not socially accepted.
We should be sensitive to ESG investments. A high risk appetite may not be well perceived. According to the culture, it would be better to have a modest or a wealthy financial situation.

2. We are not always aware of our preferences.
We may be convinced to be risk averse because our relatives have told us so or for any other external reasons. This does not mean it corresponds to our true preferences. Being aware of our own biases and personality is often tricky.

3. We are unable to put into words or evaluate our preferences precisely.
We know we are comfortable when the value of our portfolio slightly increases or decreases, but we do not know if this means we have a moderate or a very aggressive risk profile.

4. We answered randomly because we get bored by traditional questionnaires.

In the end, traditional onboarding questionnaires do not really help advisors to understand the expectations and psychology of their clients.

The benefits of the Neuroprofiler questionnaires

The use of psychometrics or behavioral finance questionnaire can help better understand clients’ true preferences thanks to a more scientific approach:

• Computation of inconsistencies and response errors
• Use of indirect questions to capture clients’ implicit biases
• Use of an interactive and user-friendly interface to make sure clients do not get bored
• Simulations and back-testing to check the predictability of the questionnaires
• Use of simple words and situations to make sure clients understand the question
• Use of role-play exercise to be sure clients answer in a realistic way rather than in a theoretical way

If you are interested, make an appointment for a demonstration or send us a message if you have any questions about our services, the integration, quotation, etc.

References:

http://blogs.hbr.org/2012/08/marketing-is-dead/
Hilke Plassman publications, INSEAD

1-Greenwald, A. G., Poehlman, T. A., Uhlmann, E., & Banaji, M. R. (2009). Understanding and using the Implicit Association Test: III. Meta-analysis of predictive validity. Journal of Personality and Social Psychology, 97, 17–41

2-Implicit assimilation and explicit contrast: A Set/Reset Model of response to celebrity voiceovers MARK R. FOREHAND, ANDREW PERKINS

3- Predictive Validity of the Implicit Association Test in Studies of Brand, Consumer Attitudes and Behavior Greenwald, A. G., Dominika Maison, Ralph H. Bruin, JOURNAL OF CONSUMER PSYCHOLOGY, 14(4), 405–415, 2004

4-Verlegh, P. W. J., & Steenkamp, J.-B. E. M. (1999). A review and meta-analysis of country-of-origin research. Journal of Economic Psychology, 20(5), 521-546

5-Implicit Consumer Ethnocentrism–an Example of Dissociation between Explicit and Implicit Preference, A. G., Dominika Maison, Ralph H. Bruin, 2004

6-Is the implicit association test a valid and valuable measure of implicit consumer social cognition? FF Brunel, BC Tietje, AG Greenwald – Marketing, 2004

7-A Meta-Analysis on the Correlation Between the Implicit Association Test and Explicit Self-Report Measures, Wilhelm Hofmann, Bertram Gawronski, Tobias Gschwendner, Manfred Schmitt

8-MEASURING IMPLICIT CONSUMER ATTITUDES AND PREDICTING BRAND CHOICE, Michaela Wanke, Henning Plessner, TatjanaGartner, Wade Malte Friese, 2002

9- Object and user levels of analyses in design: the impact of emotion on implicit and explicit preference for ‘green’ products,Vera Sacharina, Richard Gonzaleza and Jan-Henrik Andersen, 2008
10-Predictive Validity of the Implicit Association Test in Studies of Brand, Consumer attitudes,and Behavior, Maison, Greenwald, Bruin (2004)

11-Does One Bad Apple(Juice) Spoil the Bunch? Implicit Attitudes Toward One Product Transfer to Other Products by the Same Brand (2012) Kate A. Ratliff, Bregje A. P. Swinkels, and Kimberly KlerxBrian A. Nosek

12-Unhealthy food is not tastier for everybody: The “healthy = tasty” French intuition (2013) Carolina O.C. Werlea , Olivier Trendela, Gauthier Arditoa

13-The implicit measurement of destination image: The application of Implicit Association Tests (2012) JieYang, Jiaxun He c, Yingkang Guba

14-Using aversive images to enhance healthy food choices and implicit attitudes: An experimental test of evaluative conditioning (2011) Hollands, Gareth J.; Prestwich, Andrew; Marteau, Theresa M. Health Psychology, Vol
30(2)

L’article Traditional onboarding questionnaires: What your clients may not tell you est apparu en premier sur Neuroprofiler.

The growth of SRI, or socially responsible investment, is closely linked to European regulations, which are gradually shaping its contours. The MiFIDII law and the obligation to collect investors’ ESG preferences in the suitability questionnaire are the latest stones in a building still under construction.

A new legal context for sustainable financial products

In 2020, the European Commission published a new draft regulation intended to amend the MiFID II delegated regulation. Launched in the 2008 financial crisis, MiFID aims to protect investors further. In this sense, this new version of the text provides the obligation to consider the environmental, social, and governance (ESG) preferences of investors when assessing suitability in investment advice and portfolio management.

As of August 2, 2022, investment firms will have to assess investors’ potential sustainability preferences by asking them about their ESG preferences and include these preferences in their investment strategy.

To do so, the European Securities and Markets Authority (ESMA) published in January 2022 a first draft of guidelines to help financial firms implement this new requirement. This document will be a complement to the guidelines on client suitability assessment published in 2018.

The 2018 guidelines were mainly focused on the use of behavioral finance and the avoidance of self-assessment to reduce cognitive bias when assessing client’s suitability.

Avoiding self-assessment

Firms should take reasonable steps and have appropriate tools to ensure that the information collected about their clients is reliable and consistent, without unduly relying on clients’ self-assessment.

Guidelines
on certain aspects of the MiFID II suitability requirements, ESMA, 2018

The 2018 guidelines provide arguments on why direct explicit questions like “Do you know the mechanisms of shares?” or “What is your ideal risk/return?” will fail to capture the true client’s experience and preferences. Self-assessment should be avoided, more specifically for the assessment of risk perception and financial knowledge.

When assessing the risk tolerance of their clients through a questionnaire, firms should not only investigate the desirable risk-return characteristics of future investments but they should also take into account the client’s risk perception. To this end, whilst self-assessment for the risk tolerance should be avoided, explicit questions on the clients’ personal choices in case of risk uncertainty could be presented. Furthermore, firms could for example make use of graphs, specific percentages or concrete figures when asking the client how he would react when the value of his portfolio decreases

Guidelines
on certain aspects of the MiFID II suitability requirements, ESMA, 2018

The adoption by firms of mechanisms to avoid self-assessment and ensure the consistency of the answers provided by the client is particularly important for the correct assessment of the client’s knowledge and experience

Guidelines
on certain aspects of the MiFID II suitability requirements, ESMA, 2018

Integrating behavioral finance principles

On top of avoiding self-assessment, the ESMA recommends in the 2018 guidelines to incorporate the outcomes of behavioral finance to reduce client’s cognitive biases.

Traditional finance models are based on the assumption according to which the economic agents are rational. This means (inter alia) they are able to process relevant information in an efficient and unbiased way and that their decisions are consistent with utility maximization. Various studies and some market failures have nonetheless demonstrated that investors, or at least a significant number of them, are subject to heuristics and behavioural biases. This means that investors are very susceptible to how certain choices are presented to them. In many situations, their financial decisions are therefore at least partially influenced by non-relevant aspect from the decision context, which might lead to sub-optimal outcomes for them. 3 Evidence of these biases have typically been identified as coming from cognitive psychology literature and have then been applied in the financial context

Consultation on Guidelines
on certain aspects of the MiFID II suitability requirements, ESMA, 2018

In particular, the suitability assessment may be ineffective if it does not take into account clients’ behavioural biases: if the way questions are formulated does not consider those cognitive and behavioural biases (which could affect preferences and choices), the questionnaire may result to be unreliable. At the same time, the questionnaire itself ought to be unbiased: questions must be formed to prevent any perceptive or cognitive distortion from impairing the answers and affecting their validity and reliability.

Consultation on Guidelines
on certain aspects of the MiFID II suitability requirements, ESMA, 2018

The majority of respondents to the 2018 guidelines welcomed this initiative to take into account research on behavioural finance in the client suitability assessment process. In particular, the Securities and Markets Stakeholders Group (SMSG) has been an active supporter of the use of behavioral finance to enhance investor protection in these guidelines, as well as in other responses to ESMA consultations related to investor protection.

References to insights of behavioural economics and the insertion of a correlation table are much appreciated.

Response to ESMA’s Consultation Paper on “Guidelines on certain aspects of the MiFID II suitability requirements”, 2017

Self-assessment and sustainability preferences

As mentioned in introduction, in January 2022, the ESMA published guidelines to help financial institutions implement changes in the MiFIDII regulation regarding the assessment of sustainability preferences.

Surprisingly, contrary to the behavioral approach strongly promoted in the previous guidelines, the regulator recommends to rely on self-assessment to capture ESG preferences.

It should be noted that, in reflecting the legislative text, the approach suggested for gathering information from clients on their sustainability preferences is substantially based on self-assessment. This is different from the approach that firms are expected to adopt when collecting information on the ‘traditional’ parameters of suitability assessment. Firms are reminded that the existing ESMA guidelines focusing on the measures to be adopted to limit the risks of self-assessment remain confirmed and are not in any way impacted by the new guidance on collecting information on clients’ sustainability preferences

Guidelines on certain aspects of the MiFID II suitability requirements, January 2022

This recommendation is in contradiction to both recommendations from stakeholders like the Securities and Markets Stakeholder Group (SMSG) and from academic research.

Contradictions to the SMSG recommendations

In another consultation, the SMSG published recommendations to foster behavioral finance in the KYC process to fight against cognitive biases.

Based on further literature on behavioural finance, several ideas may be explored around a stricter enforcement of the know-your-customer principle, where documentation may be combined with tests (more or less thorough, using psychological insights, possibly determined in liaison with supervisory authorities) which would reveal the real knowledge bias and the real risk aversion of clients.

SMSG response to ESMA on its Call for evidence on the EC mandate on certain
aspects relating to retail investor protection, January 2022

Contradictions to academic research in psychology and behavioral finance

The assessment of investment preferences is prone to many cognitive biases.

Academic research show that self-assessment questionnaires do not permit to capture client’s true preferences and expertise. This kind of questionnaires are indeed prone to many cognitive biases.

As mentioned in the ESMA 2018 guidelines, this is the case for risk preferences (risk aversion bias) and financial knowledge (overconfidence bias). But this is also (and even more) the case for sustainability preferences.

The assessment of sustainability preferences are prone to many biases such as motivation bias, anchoring effect, confirmation bias, judgmental heuristics, social desirability,…

Some of these biases may be conscious (explicit bias). For instance, a male client may be uncomfortable to share with his advisor that he cares about the environment and will consciously lies about his preferences to be more in line with what is socially expected from him (see studies by Brough and al.). Other biases affecting sustainability preferences may be implicit as described below.

It is thus surprising to find in the ESMA guidelines that self-assessment should be avoided for risk preferences and financial knowmedge assessment, but not for sustainability preferences assessment.

Implicit bias strongly influence our social and environmental beliefs

The question of sustainability is indeed very subjective and even controversial.

With the new MiFIDII changes, retail clients will be asked to share intimate preferences and beliefs on diversity, nuclear power, weapons or climate change. Based on academic literature in psychology and behavioral finance, capturing such sensitive information will be probably even more prone to cognitive biases than for the assessment of risk preferences.

Research on “implicit bias” suggests that people can act on the basis of prejudice and stereotypes without intending to do so. As opposed to explicit bias, which can consist in conscient beliefs or preferences, implicit bias often consists of unconscious tacit attitudes and preferences. Even the most well-meaning and conscientious investors have implicit biases.

These implicit biases are especially strong regarding the social or environmental beliefs and values.

Implicit bias and sustainability preferences assessment

For instance, academic studies have shown that implicit biases can strongly influence our perception of gender diversity, circular economy or recycling which are part of the European Taxonomy or considered as Principal Adverse Impacts (PAI) by the European Commission (see references below).

Cognitive psychology studies in this field show important differences between explicit biases (captured through self-assessment questionnaires) and implicit biases (captured through psychometric tools). Captured implicit biases are more predictive of the actual behavior of consumers than assessed explicit biases, showing that self-assessment questionnaires are particularly ineffective to capture consumer’s true preferences regarding social and environmental matters.

Implicit biases affect not only the investors, but also the advisors.

For instance, Brough at al. showed a strong Green-Feminine Stereotype in their research. It means that eco-friendly behavior, such as investing in sustainable funds, are perceived as “unmanly”.

This may imply that advisors will recommend more ESG investments to women than to men (unconsciously or not).

Neuroprofiler response to the ESMA consultation

Based on this academic research, our suggestion to the ESMA will be to apply for sustainability preferences assessment the same recommendations formulated in the 2018 guidelines for risk preferences assessment:

• Avoid the use of self-assessment
• Use of a behavioral economic or psychometric approach
• If possible, promote the fact that the client takes the suitability questionnaire in autonomy, without the help of an advisor or a relative

Such recommendations will strongly help reducing cognitive biases influencing the assessment sustainability preferences, which should be again much stronger than for the assessment of risk preferences given the subjective and sometimes controversial dimension of social and environmental values.

References

Bhattacharya, A. Hackethal, S. Kaesler, B. Loos, S. Meyer, September (2011), Is Unbiased Financial Advice to Retail Investors Sufficient? Answers from a Large Field Study, U.

Brough, A., Wilkie, J.E, Ma, J., Isaac, M.S, Gal, D., (2016). Is Eco-Friendly Unmanly? The Green-Feminine Stereotype and Its Effect on Sustainable Consumption. Journal of Consumer Research, 43:4, 567-82.

Brough, A., (2017). Men Resist Green Behavior as Un-Manly: A Surprising Reason for Resistance to Environmental Goods and Habits. Scientific American *

Rudman, Laurie A., and Stephen E. Kilianski.(2000). “Implicit and explicit attitudes toward female authority.” Personality and social psychology bulletin 26.11

Werle, C. O., Trendel, O., & Ardito, G. (2012). Unhealthy food is not tastier for everybody: The “healthy= tasty” french intuition. Food Quality and Preference.

Greenwald, A. G., Poehlman, T. A., Uhlmann, E., & Banaji, M. R. (2009). Understanding and using the Implicit Association Test: III. Meta-analysis of predictive validity. Journal of Personality and Social Psychology, 97, 17–41

Greenwald, A. G., Dominika Maison, Ralph H. Bruin, JOURNAL OF CONSUMER PSYCHOLOGY, 14(4), 405–415 (2004), Predictive Validity of the Implicit Association Test in Studies of Brand, Consumer Attitudes and Behavior

Dominika Maison, Ralph H. Bruin, (2004), Implicit Consumer Ethnocentrism–an Example of Dissociation between Explicit and Implicit Preference, A. G.

Vera Sacharina, Richard Gonzaleza and Jan-Henrik Andersen, (2008), Object and user levels of analyses in design: the impact of emotion on implicit and explicit preference for ‘green’ products

L’article Sustainability preferences: the limit of self-assessment est apparu en premier sur Neuroprofiler.

What is the most likely explanation of this huge increase?

1. The fund has performed very well over the past few months. This increase is just a continuation.
2. The prices of food has recently increased in your supermarket. This increase has certainly affected the evolution of your price fund.
3. None of above

Many investors may be tempted to rationalize this increase by a hypothesis similar to 1 or 2 while, most probably, this increase is a result of a complex combination of random events. Financial markets can rarely be rationalized and explained by simple mechanisms.

This kind of cognitive shortcut is called representativeness bias. This heuristic is frequently used in our daily life because it is an easy computation. Past good performance implies future good performance. Increase in the price of food in my supermarket implies a general increase in the agriculture sector, including in agrotech.

As a consequence, we overestimate our ability to accurately predict the likelihood of an event.

The representativeness heuristic is described by the Nobel Prize Winner Daniel Kahneman and his colleague Tversky as “the degree to which [an event] (i) is similar in essential characteristics to its parent population, and (ii) reflects the salient features of the process by which it is generated”.

When people rely on representativeness to make judgments, they are likely to judge wrongly because the fact that something is more representative does not actually make it more likely.

Reference

Busenitz, L. W., & Barney, J. B. (1997). Differences between entrepreneurs and managers in large organizations: Biases and heuristics in strategic decision-making. Journal of business venturing, 12(1), 9-30.

L’article Cognitive bias: representativeness bias est apparu en premier sur Neuroprofiler.

Let’s make a simple case study so you will easily understand the unit dependence bias and naive diversification.

You are given $20,000 by a relative.

You can invest this amount in IBM and Apple stocks (stock price: $91.72 for IBM and $15.21 for Apple) or you can invest in two portfolio M or S.

Which one do you choose?

Unfortunately, the first portfolios are not available anymore. You are now offered instead to invest in one of the two portfolios below. Which one do you choose?

MBA students have been confronted to this choice and most of them did not have the same preference in the first and in the second case, even though the portfolios are strictly identical. Only the way to present the information (in dollars or in number of shares) has changed.

Two biases are involved in this decision-making.

1. Unit dependence bias: Unit dependence bias makes us solve a problem differently according to the units used to present it. Unit dependence bias is a specific case of the framing effect, to be influenced by the way a problem is presented.
2. Naive diversification bias: Diversification bias is a kind of heuristic, an intuitive tool to solve rapidly complex problems. This heuristic has been first observed in marketing by Simonson, a psychologist. He showed that when people have to make simultaneous choices (for example, to choose in one shot the portfolio with the best asset allocation), they tend to diversify more of their allocation than when making sequential choices.

Consequences on the financial markets

Studies in behavioral finance have shown that many investors tend to make a “naive diversification” of their investments, like in the example above.

It means that if they can invest in 5 funds, they will invest 1/5 of their total investable amount in one of these 5 funds, with little regard to whether the options are a stock fund, a bond fund, or a mixed fund (Benartzi & Thaler, 2001). This bias can lead to suboptimal investments.

For further information about the unit dependence bias:

Biases in allocation under risk and uncertainty: Partition dependence, unit dependence, and procedure dependence Thomas Langer , Fox 2005

L’article Cognitive bias: Unit dependence and naive diversification est apparu en premier sur Neuroprofiler.

Did you see the trick? If not, watch the video again more carefully!

This video is a famous example of change blindness.

Change blindness affects our daily decisions

It refers to the fact that we are sometimes so focused on a specific thought or movement than we ignore the rest. People’s poor ability to detect changes has been argued to reflect fundamental limitations of human attention. This phenomenon has been studied since the XIXth by researchers like William James.

Cognitive psychologists expanded the study of change blindness into decision-making. In a study by Johansson, Sikstörm and Olsson, participants were shown ten paris of faces and asked to choose which face was more attractive.

At the end of the experience, researchers changed discreetly the chosen faces for others and asked the participants to validate their choice. Only 26% of subjects noticed the mismatch between their choice of face and the different face they were shown instead!

We are so focused on being consistent with our past choices and decisions that we do not even notice if their output changes!

How to limit the impacts of the change blindness bias?

Research showed that change blindness can be counteracted by a number of methods like attention guidance, signal gradation, direct comparison or increased concentration.

Time to test!

References

Johansson, P.; Hall, L.; Sikström, S.; Olsson, A. (2005). “Failure to detect mismatches between intention and outcome in a simple decision task”. Science. 310 (5745): 116–119. Bibcode:2005Sci…310..116J. doi:10.1126/science.1111709. PMID 16210542. S2CID 16249982.

L’article Cognitive Bias: Change blindness est apparu en premier sur Neuroprofiler.

The increasing appetite of consumers for bio products and sustainability investments reveals the desire of the young generation for a more ethical life and planet.

Sustainable investing has continually grown over time and has particularly increased since 2019 with the health crisis and financial regulatory changes.

A 2020 Trends Report by the United States Forum for Sustainable and Responsible Investment noted total sustainable investment assets under management reached $17.1 trillion — a 42% increase since 2018. Today, it’s estimated that 33% of all U.S assets under professional management are tied to sustainable investing or related to ESG practices.

In the European Union, the MiFID2 and SFDR laws have made it compulsory to classify financial products based on their ethical impact and link these characteristics to client’s sustainability preferences.

But what exactly can be designated as ethical or unethical?

Before the Ukraine crisis, the sectors of weapon or nuclear power were considered as unethical by many European countries. It changed in a couple of weeks. The European Commission finds itself discussing whether weapons should be listed as ESG assets, to grant them more favorable access to financing to support the war.

So, is there a universal ethics? From Plato to Nietzsche, the question is a topos of the philosophical literature. With the rise of ESG investments, this question is becoming a financial question, too.

In this article, we do not have of course the ambition to answer this complex philosophical question but just to give a cognitive science insight.

Let’s take a tangible example.

The Trolley Problem

There is a runaway trolley barreling down the railway tracks. Ahead, on the tracks, there are five people tied up and unable to move. The trolley is headed straight for them. You are standing some distance off in the train yard, next to a lever. If you pull this lever, the trolley will switch to a different set of tracks. However, you notice that there is one person on the side track.

You have two (and only two) options:

1. Do nothing, in which case the trolley will kill the five people on the main track.

2. Pull the lever, diverting the trolley onto the side track where it will kill one person.

Which is the more ethical option? Or, more simply: What is the right thing to do?

The trolley problem has been the subject of many cognitive experiments.

When the question is asked in a theoretical manner, about 90% of respondents chose to kill the one and save the five.

When the question is asked in a realistic setup (subjects are placed alone in what they think to be a train-switching station), most of the participants do not pull the lever.

Now, let’s have a slightly different version of the dilemma.

As before, a trolley is hurtling down a track towards five people. You are on a bridge under which it will pass, and you can stop it by putting something very heavy in front of it. As it happens, there is a very large man next to you – your only way to stop the trolley is to push him over the bridge and onto the track, killing him to save five.

Should you proceed?

Here, the behaviors change. Most people disapprove of pushing the large man to save a net of four lives.

So what is an ethical behavior in these two cases?

From a utilitarian point of view, the answer is mathematical and should be exactly the same in the two situations. 5 people die in option 1. 1 person dies in option 2.

An ethical behavior means doing our best to minimize the number of deaths. As a consequence, the option 2 to save the lives of the 5 persons is always the most ethical one.

An alternative viewpoint is that since moral wrongs are already in place in the situation, moving to another track constitutes a participation in the moral wrong, making one partially responsible for the death when otherwise no one would be responsible. In the second dilemma, the responsibility is much more obvious. We consciously harm someone.

Ethics and neuroscience

In 2001, Joshua Greene and co published the results of the first significant empirical investigation of people’s responses to trolley problems using a neuronal approach.

Using fMRI, they demonstrated that the second situation implies brain regions associated with emotion (our ventromedial prefrontal cortex (VPMC)), whereas the first situation implies brain areas in charge of controlled reasoning.

People with a lesion on this part of the brain for instance tend to be very utilitarian and choose systematically to kill the fat man.

Conclusion

The notion of ethics may not only be related to our culture and philosophy, but also to the geopolitical and economic context, as it is today illustrated by the Ukraine war. Cognitive studies have also demonstrated it depends from neurological mechanisms which can be different from one individual to another. .

We may be thus only at the beginning of intense debates about what can be considered as an environmentally or socially ethical financial product!

References

Moll, J., & de Oliveira-Souza, R. (2007). Moral judgments, emotions and the utilitarian brain. Trends in cognitive sciences, 11(8), 319-321.

L’article Cognitive Bias: Utilitarian and Emotional Ethics est apparu en premier sur Neuroprofiler.

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You have been invited to be on a famous TV game called Monty Hall.

To win a beautiful car, you have to open the right door.

The car is behind one of them while two goats are behind the other doors.

Which door do you choose? Watch this video to know more about this famous bias!

Reference:
Financial engineering and rationality: experimental evidence based on the Monty Hall problem. Brian Kluger (University of Cincinnati),Daniel Friedman (University of California at Santa Cruz)

L’article Cognitive Bias: The Monty hall Case est apparu en premier sur Neuroprofiler.