Have you ever held onto a stock simply because of the previous price you initially paid for it?
Or hesitated to buy because a stock seemed “expensive” relative to a past price level?
If so, you’ve experienced anchoring bias in trading in your everyday life.
Anchoring bias occurs when traders rely too heavily on an initial anchor, like their entry price, to make financial decisions, even when that information is no longer relevant. This mental shortcut is a classic example of trading psychology at work. It often causes traders to misjudge current market dynamics and make suboptimal decisions.
It’s a common cognitive bias that affects many aspects of life. For instance, imagine you’re shopping for a new laptop. You see one listed at $2,500, but the store later offers it for $1,800 on sale. Because your mind is anchored to the original price, $1,800 seems like an incredible deal—even if you could find the same laptop for $1,500 elsewhere.
The same principle applies to securities trading, but with far greater financial consequences.
How Anchoring Bias Impacts Trading Decisions
Anchoring bias distorts judgment and leads stock traders to make costly mistakes. Here’s how:
1. Holding Onto Losing Trades
Traders often refuse to sell a stock at a loss because they’re anchored to the purchase price they originally paid. Instead of objectively assessing the new market reality, they wait for the stock to return to its original anchors, which may never happen.
Example: A trader buys a stock at $50 per share, but it drops to $40. Instead of reassessing external factors like earnings reports or industry trends, or the sell signal they received from their trading system, they refuse to sell, thinking, “I’ll wait until it gets back to $50 to break even.” Meanwhile, the stock price continues to decline.
2. Hesitating to Buy Stocks at Higher Prices
If a trader sees a stock trading at $100 but remembers it being $70 a few months ago, they may hesitate to buy—even if all signs point to further growth. Their mind is stuck on the outdated average appraisal price.
Example: A company’s stock price is $110, but you remember when it was $50 just six months ago. Instead of analyzing its long-term investment value, you anchor to the old price and miss a profitable opportunity.
3. Misjudging Market Trends
Stock traders who are anchored to historical values usually struggle to accept new information. This often results in poor decision-making, missed opportunities, or excessive risk-taking.
Example: A bull market environment is a perfect example of when a trader assumes that prices will keep rising simply because they’ve anchored to past price hikes. They fail to realize signs of exhaustion, leading to losses when the trend reverses.
Even seasoned institutional investors fall victim to this bias. Research in behavioral finance studies has shown that analysts sometimes anchor their earnings forecasts to industry averages, leading to inaccurate pricing models. When analysts underestimate earnings for firms with higher-than-average EPS, these stocks outperform expectations, while those with low EPS often underperform.
The Role of Trading Systems in Mitigating Anchoring Bias
The best way to overcome anchoring bias is by removing emotions from processes in stock selection and relying on a systematic, rule-based approach. This is where strict trading rules help.
A trading plan defines specific stock selection strategies, entry and exit rules, risk management techniques, and position sizing based on descriptive models instead of emotions.
For example:
- Instead of fixating on a stock’s previous price, a trend-following behavior strategy would buy based on momentum and exit when the trend weakens—regardless of its past acquisition prices.
- A mean-reversion strategy would identify undervalued stocks based on standard deviation rather than outdated product price anchors.
Backtesting helps traders build confidence in their system, reducing the temptation to second-guess trades based on unconscious biases.
Challenges Systematic Traders Face with Anchoring Bias
Even successful trading professionals are not immune to anchoring bias. Systematic traders struggle with:
- Doubting Their Trading Psychology: If a trader backtests a system and sees a stock has underperformed, they may anchor to negative news and hesitate to follow the system’s signals.
- Adjusting Potential Losses Based on Previous Prices: A trader may increase their risk simply to avoid a small loss, even if their system signals an exit.
- Recent Performance: Instead of trusting long-term trading system performance, traders may anchor to recency bias, questioning whether the system still works if it is experiencing a drawdown.
The key to overcoming these challenges is rational thinking and discipline. Traders must trust their system and focus on logical thinking, not emotions.
Actionable Tips for Overcoming Anchoring Bias in Trading
Here are some practical strategies to eliminate anchoring bias and improve your real-life thinking patterns:
1. Journal Your Trades: Keep track of why you entered and exited a trade. This helps identify psychological factors affecting your judgment.
2. Use Backtesting: Backtest your trading criteria to develop confidence in objective descriptive models rather than single piece anchors.
3. Set Hard Rules for Entries and Exits: Follow predefined strict trading rules based on technical indicators, not emotions.
4. Review Historical Trades: Identify past instances where anchoring bias hurt your performance and adjust accordingly.
5. Seek Accountability: Join a trading community or mentorship program (like The Trader Success System) to reinforce discipline.
Frequently Asked Questions About Anchoring Bias in Trading
Is anchoring bias common among traders?
Yes. Most traders, including individual investors’ decision-making processes, experience anchoring bias at some point. The key to overcoming it is using structured trading plans that eliminate emotional decision-making.
How can I tell if I'm falling into anchoring bias?
If you find yourself saying, “I’ll only sell when it gets back to my purchase price,” or “This stock is too expensive because of its previous price,” you’re likely experiencing anchoring bias.
Does anchoring bias only affect individual traders?
No. Even property investors, SBICAP Securities, and Social Security fund managers can be affected by anchoring bias. However, the best traders mitigate it by following strict trading rules.
What's the best way to stop anchoring bias from affecting my trades?
The best way is to trade systematically. A proven trading system with precise entry and exit rules helps you make informed decisions based on market dynamics, not emotions.
What’s the best way to overcome ambiguity averse?
Committing to a systematic approach and sticking to pre-defined rules is the fastest path. The Trader Success System helps traders remove emotion and trade confidently.
Trust The System, Not Your Biases
Anchoring bias is one of the biggest trading psychology related factors affecting traders. It leads to poor investment decisions, missed opportunities, and losses.
But here’s the good news—you don’t have to let it control your trading.
By applying structured trading plans and reliance on systematic strategies, you can make accurate picture financial decisions and trade with 100% confidence.
Want to overcome anchoring bias and master systematic trading?
Learn more about The Trader Success System.
Trading Psychology and Psychological Bias Articles
To dive deeper into how other psychological biases affect your trading psychology and decisions as well as practical ways to overcome them, explore the articles below. For a comprehensive guide on mastering your mindset and building a resilient psychology, visit our Trading Psychology page.
- Action Bias in Trading
- Ambiguity Aversion in Trading
- Anchoring And Adjustment in Trading
- Anchoring Bias in Trading
- Authority Bias in Trading
- Availability Heuristic in Trading
- Bandwagon Effect in Trading
- Bias Blind Spot in Trading
- Choice-Supportive Bias in Trading
- Commitment And Consistency Bias in Trading
- Confirmation Bias in Trading
- Conservatism Bias in Trading
- Contrast Effect in Trading
- Decoy Effect in Trading
- Disposability Effect in Trading
- Disposition Effect in Trading
- Dunning-Kruger Effect in Trading
- Endowment Effect in Trading
- Escalation Of Commitment in Trading
- Familiarity Bias in Trading
- Framing Effect in Trading
- Gambler's Fallacy in Trading
- Halo Effect in Trading
- Herd Mentality in Trading
- Hindsight Bias in Trading
- House Money Effect in Trading
- Hyperbolic Discounting in Trading
- Information Bias in Trading
- Loss Aversion in Trading
- Money Illusion in Trading
- Narrative Fallacy in Trading
- Neglect Of Probability in Trading
- Normalcy Bias in Trading
- Optimism Bias in Trading
- Ostrich Effect in Trading
- Outcome Bias in Trading
- Overconfidence Bias in Trading
- Paralysis By Analysis in Trading
- Pessimism Bias in Trading
- Recency Bias in Trading
- Regret Aversion in Trading
- Representativeness Heuristic in Trading
- Salience Bias in Trading
- Selective Perception in Trading
- Self-Attribution Bias in Trading
- Status Quo Bias in Trading
- Sunk Cost Fallacy in Trading
- Survivorship Bias in Trading
- Trading Psychology in Trading
- Zero-Risk Bias in Trading
