JUDGMENT AND DECISION MAKING Module 10 Overconfidence and

JUDGMENT AND DECISION MAKING Module 10 Overconfidence and optimistic bias

In this module… § Our actual status and competence vs. our confidence § Optimism and overconfidence § Optimistic bias § Dunning-Kruger effect § Imposter syndrome

Let’s take a short survey § On the next page, rate how much the statements on the next page are true of you. § Use a 0 to 4 scale: § 0 § 1 § 2 § 3 § 4 = = = Strongly disagree Disagree Neither agree nor disagree Agree Strongly agree

Optimism (use 0 -4 scale) 1. In uncertain times, I usually expect the best. 2. It's easy for me to relax. 3. If something can go wrong for me, it will. 4. I'm always optimistic about my future. 5. I enjoy my friends a lot. 6. It's important for me to keep busy. 7. I hardly ever expect things to go my way. 8. I don't get upset too easily. 9. I rarely count on good things happening to me. 10. Overall, I expect more good things to happen to me than bad.

Optimism (use 0 -4 scale, but 4 -0 for *) 1. In uncertain times, I usually expect the best. 2. It's easy for me to relax. 3. If something can go wrong for me, it will. * 4. I'm always optimistic about my future. 5. I enjoy my friends a lot. 6. It's important for me to keep busy. 7. I hardly ever expect things to go my way. * 8. I don't get upset too easily. 9. I rarely count on good things happening to me. * 10. Overall, I expect more good things to happen to me than bad.

Optimism (use 0 -4 scale, but 4 -0 for *) 1. In uncertain times, I usually expect the best. 2. It's easy for me to relax. 3. If something can go wrong for me, it will. * 4. I'm always optimistic about my future. 5. I enjoy my friends a lot. 6. It's important for me to keep busy. 7. I hardly ever expect things to go my way. * 8. I don't get upset too easily. 9. I rarely count on good things happening to me. * 10. Overall, I expect more good things to happen to me than bad.

Optimism (average from a 1994 study) Group Average on the LOT-R Students 14. 33 Female students 14. 42 Male students 14. 28

Optimism as a blessing § Optimists are… § Cheerful § Happy § Popular § Resilient in adapting to failures and hardships § Less likely to have depression § More likely to have stronger immune system § Take better care of their health § Live longer

Optimism as a blessing § Paul and Robinson (2007): Optimists… § Work harder § Expect to retire later § Are more likely to remarry after divorce § Invest more in individual stocks § Save more § Moderate optimists display reasonable financial behavior, but extreme optimists engage in financially reckless habits and behavior

Optimists have a big role in our society § People in leadership positions are very often optimists § Entrepreneurs are more likely to be optimistic than midlevel managers about life in general § They take larger risks § Their experience of success makes them display more confidence in their own judgments § Confidence is reinforced by others’ admiration § Optimistic attitudes and displays of confidence can also attract investments and boost morale of employees

But optimism can also be damaging § Optimists often fail to evaluate risks § As a result, often take excessive risks § Debt financing over equity financing § Overpay for target companies § Undertake value-destroying mergers § Firms often begin to underperform after their CEOs win awards

Celebrity CEOs Kang Duk-soo “A ‘salaryman’ legend”

Celebrity CEOs

Celebrity CEOs § Worked as an ordinary employee for 30 years, climbing the corporate ladder § Purchased ship engine company facing liquidation he was working for with private assets (2001) § Expanded by purchasing a shipyard, a major shipping company, and Europe’s largest cruise ship maker § Also built a new massive shipyard in China § Became one of top 15 companies in Korea, and top 5 shipbuilders in the world § All in less than a 10 year span

Celebrity CEOs § Baltic Dry Index (bulk shipping prices)

Celebrity CEOs § Reckless decisions § Purchasing companies larger than itself § Using cash received as advance payment for building ships for business expansion (risk on cash flow) § Relying on a business portfolio that almost entirely hinges on the shipping market § Hired too many people (even hired me) § When global shipping market began to crash, § Lost credit and cash § Had to sell all of his expansions § Charged of fraud and embezzlement

Small businesses * Headd, B. Redefining Business Success: Distinguishing Between Closure and Failure, 2002 # Shane, S. Startup Failure Rates – The Real Numbers, 2008 ^ Phillips & Kirchhoff. Small Business: Critical Perspectives 1989

Small businesses § Cooper et al. (1988). Entrepreneurs' perceived chances for success § Entrepreneurs perceived their prospects for success as very favorable, with 81% seeing odds of 7 out of 10 or better § 33% seeing odds of success of 10 out of 10.

Write about a case… § In which yourself, friend, family, or a famous person… § Was very confident that they could accomplish something § But failed to deliver

What is happening with overconfident CEOs? Overconfidence: when one’s subjective confidence in judgements is reliably greater than the objective accuracy of those judgements § Planning fallacy § Illusion of control § Competition neglect § Availability heuristic § Representativeness heuristic § Social pressure

Planning fallacy § Planning fallacy occurs when plans and forecasts are unrealistically close to best-case scenarios, when these predictions could have been improved by consulting statistics of similar cases § Underestimate the cost of remodeling your kitchen § Costs of a new construction project being underestimated § Number of passengers who will use a new rail system are being overestimated (90% of cases worldwide, 106% overestimation)

Planning fallacy § Ulrich Hoffrage (2017), opening a chapter on “overconfidence” § “When the editor of this book asked me whether I would be interested in contributing a chapter on overconfidence, my first question was “What’s the deadline? ” When Ruediger said, “In half a year—end of October” I replied, “Impossible. With some luck, this is when I could start writing. If the end of November is okay with you, I’m on board. Otherwise, I have to say no. ”

Planning fallacy § “At the time, my confidence of providing the chapter by the end of November was about 80% and my confidence of being done before Christmas was almost 100%. ” § “Christmas came and I had not yet even started. ”

Illusion of control § We often approach random events as if there is a pattern § CEOs are prone to illusion of control when they neglect the role of luck and uncontrollable events and overestimate the role of their own skills

Competition neglect § It does not mean: § That one is regarding their competitors as inferior § An arrogant attitude § What it means: § The failure to consider what others will do, given the same opportunities and threats in the market § Focusing on only what I do, and usually what I am doing right about

Competition neglect § If you were to sell something on e. Bay, when would you close the auction?

Competition neglect § Many sellers choose to end it in the evening hours because that’s when there are the highest number of buyers § But they fail to consider that other sellers are thinking in the same way, also closing their auctions in evening hours § On the other hand, buyers do not feel the urge to strategically rally their purchases in the evening

Competition neglect § In fact, in evening hours, the probability of sales and the selling price are lower than day hours § A/B ratio = Auction/Bids ratio; Pr(Sale) = probability of sale § Simonsohn (2010), e. Bay’s crowded evenings: Competition neglect in market entry decisions

Availability heuristic § For CEOs, the good things that they intentionally do to make their business successful will more easily come to mind § They build a ‘story’ that makes sense of what is available § But fail to consider things that are relevant but not available in memory

Representativeness heuristic § A prototype of other CEOs who make bad decisions and fail come to mind § Such prototypes are often based on biased media portrayals (sensational failure stories) § Rate similarities between oneself and that prototype § Determine that ‘I am not one of them’

Representativeness heuristic

Social influence § For people who are expected to provide predictions, acknowledging uncertainty is seen as ignorance and lack of confidence § People may judge: ‘You get paid to know better than that’

Who would you prefer? § A doctor who says: “You should have surgery. ” “There is a 60% chance that the surgery will be successful, but also 40% chance of failure. ”

Social influence § Tetlock: § Overconfident experts are more likely to appear in news shows § Clear-cut views that reduce and dismiss complexity are more welcome in news media

What is happening with overconfident CEOs? § Planning fallacy § Plans and forecasts unrealistically close to best-case scenarios § Illusion of control § Misinterpreting random events as systematic and controllable § Competition neglect § Failure to consider what competitors are doing in decision § Availability heuristic § Using events that easily come to mind to build a success story § Representativeness heuristic § Seeing dissimilarities between oneself and prototypical fails § Social influence

Write about a case… § In which yourself, friend, family, or a famous person… § Was very confident that they could accomplish something § But failed to deliver

Discuss your cases § Get into groups of 2 or 3 § Discuss your overconfidence case with your partner § See if any of the 6 explanations apply to your case § Be ready to share the case and the explanation with class

Explanations of overconfidence § Planning fallacy § Plans and forecasts unrealistically close to best-case scenarios § Illusion of control § Misinterpreting random events as systematic and controllable § Competition neglect § Failure to consider what competitors are doing in decision § Availability heuristic § Using events that easily come to mind to build a success story § Representativeness heuristic § Seeing dissimilarities between oneself and prototypical fails § Social influence

Premortem – A prescriptive approach § As opposed to “postmortem, ” an examination of a dead body to determine the cause of death § Proposed by Gary Klein § Gather for a brief session a group of individuals involved in the decision making § “Imagine that we are a year into the future. We implemented the plan as it now exists. The outcome was a disaster. Please take 5 to 10 minutes to write a brief history of that disaster. ”

Premortem – A prescriptive approach § Unleashes skeptical reasoning that may be absent under social influence in group settings (legitimizes doubts) § Activates searching of threats that group may have failed to consider or overlook (overcomes availability heuristic) § Not a panacea, but can reduce biased decisionmaking

Unrealistic optimism § People’s tendency to believe that they are less likely to experience negative events relative to others § Also known as: optimistic bias, optimism bias

Weinstein (1980) – Original demonstration § Study 1: § 258 students estimated how much their own chances of experiencing 42 events differed from the chances of their classmates § Positive events: On average, participants rated that they had higher chance than their classmates § Negative events: On average, participants rated that they had lower chance than their classmates

Weinstein (1980) – Original demonstration § Study 2: § 120 Students made written lists of the factors that increase or decrease the likelihood of events § When a second group read this list, the amount of unrealistic optimism among this second group significantly decreased (but was not eliminated) § Shows that optimistic bias occurs, at least in part, because people focus on factors that improve their chances of good outcomes while failing to realize the favorable factors others face

Types of unrealistic optimism § Unrealistic absolute optimism § People display unrealistic absolute optimistic if they predict that a personal future outcome will be more favorable than that suggested by a relevant, objective standard. (Sheppard, 2015) § People’s erroneous belief that personal negative outcomes, assessed on some form of absolute likelihood scale, are less likely to occur than is objectively warranted

Unrealistic absolute optimism § Examples § Actual personal outcomes § e. g. , Own actual grade after exam, 70, is lower than prediction, 90 § Calculations based on pre-validated risk algorithm § e. g. , Although an algorithm that calculates risk indicates that one’s objective risk of having diabetes is 60%, one estimates it at 30% § A previously established base-rate § Homeowners, as a group, on average, underestimate their home’s exposure to radon relative to a known base rate (73%)

Types of unrealistic optimism § Unrealistic comparative optimism § Occurs when people unduly predict that their personal outcomes will be more favorable than the outcomes of their peers § Instead of some objective standard, people compare themselves to other people

Unrealistic comparative optimism § Examples § An individual underestimating own heart attack risk relative to the average person although objective risk calculation reveals that he or she actually has higher than risk than average. § Smokers separately report that their risk of heart attack and cancer is lower than average same-sex person their age. However, because they are smokers, each already has higher-than-average risk. § On average, your estimate of the probability of getting a flu this semester was lower than that of “other ISS students”

Competence and confidence § Dunning-Kruger effect § Being overconfident relative to actual competence level § Impostor syndrome § Being under-confident relative to actual competence level

Dunning-Kruger effect § Incompetent people overestimate their skills because they also lack the ability to properly assess the level of their own skills

Dunning-Kruger effect § Incompetent people suffer from a dual burden 1) They reach erroneous conclusions and make wrong decisions. 2) Their incompetence robs them of the ability to realize it. § This is because the skills required to know something are the same skills required to know how much one knows § If you know little, you can’t realize how little you know

Kruger & Dunning (1999) – Study 3 § 84 undergraduate students § 20 -item test of English grammar § After taking test, participants compared their grammar skills with that of other students § 0: I am at the very bottom § 50: I’m exactly average § 99: I’m at the very top § Also estimated how much they scored

Kruger & Dunning (1999) – Study 3 § Bottom quartile: § Grossly overestimated their own skills § Top quartile: § Somewhat underestimated their own skills § False-consensus effect? Dunning-Kruger Effect False consensus effect?

Kruger & Dunning (1999) – Study 3 § False consensus effect: We tend to overestimate the extent to which our own opinions, beliefs, and values are shared with the larger general population. § But in this case, it could be the top quartile students falsely assuming that others also had the similar subjective experience during the test § ‘It was easy for me; it should have been for others, too!’

A cartoon version of the effect from Axiom, Reddit

On overconfidence and modesty… § The boughs that bear most hang lowest. – David Garrick § As the rice ripens, it bows deeper. – Korean proverb

Impostor Syndrome § First definition by Clance and Imes (1978) § “Internal experience of intellectual phoniness that appears to be particularly prevalent and intense among a select sample of high achieving women. ”

Clance and Imes (1978) § In the past five years we have worked in individual psychotherapy, theme-centered interactional groups, and college classes with over 150 highly successful women — women who have earned Ph. D. ’s in various specialties, who are respected professionals in their fields, or who are students recognized for their academic excellence. § However, despite their earned degrees, scholastic honors, high achievement on standardized tests, praise and professional recognition from colleagues and respected authorities, these women do not experience an internal sense of success. They consider themselves to be "impostors. " Women who experience the impostor phenomenon maintain a strong belief that they are not intelligent; in fact, they are convinced that they have fooled anyone who thinks otherwise.

Clance and Imes (1978) § Numerous women graduate students state that their high examination scores are due to luck, to misgrading, or to the faulty judgment of professors. Women professionals in our sample feel overevaluated by colleagues and administrators. One woman professor said, "I'm not good enough to be on the faculty here. Some mistake was made in the selection process. “ Another, the chairperson of her department, said, "Obviously I’m in this position because my abilities have been overestimated. "

Impostor Syndrome § Clance and Imes thought that women tend to misattribute their success to external factors because stereotypes attached to them make them expect less success § However, subsequent research found that impostor syndrome is found in other demographics, too. § i. e. , successful males also suffer from impostor syndrome

Impostor Syndrome § Correlates of impostor syndrome § Anxiety § Introversion § Feeling helpless in reaction to failure § Lack of family support and communication § High conflict and rule-based control in family § The impostor may be a person who tried to gain support in this dry emotional environment of the home by working excessively hard to please others

Impostor Syndrome § Consequences § Negative emotions § Depression § Poor mental health § Burnout § Loss of intrinsic motivation § Feeling uncomfortable with achievements (shame, guilt) § Poor achievement

Competence and confidence § Dunning-Kruger effect § Being overconfident relative to actual competence level § Impostor syndrome § Being under-confident relative to actual competence level

Impostor Syndrome