cognitive psychology Cognitive psychology is the scientific study of human mental processes such as attention, language use, memory, perception, problem solving, creativity, and reasoning. Cognitive psychology originated in the 1960s in a break from behaviorism, whi ...

and

decision science Decision may refer to: Law and politics *Judgment (law), as the outcome of a legal case * Landmark decision, the outcome of a case that sets a legal precedent * ''Per curiam'' decision, by a court with multiple judges Books * ''Decision'' (novel ...

, conservatism or conservatism bias is a

bias Bias is a disproportionate weight ''in favor of'' or ''against'' an idea or thing, usually in a way that is inaccurate, closed-minded, prejudicial, or unfair. Biases can be innate or learned. People may develop biases for or against an individ ...

which refers to the tendency to revise one's belief insufficiently when presented with new evidence. This bias describes human

belief revision Belief revision (also called belief change) is the process of changing beliefs to take into account a new piece of information. The formal logic, logical formalization of belief revision is researched in philosophy, in databases, and in artifici ...

in which people over-weigh the

prior distribution A prior probability distribution of an uncertain quantity, simply called the prior, is its assumed probability distribution before some evidence is taken into account. For example, the prior could be the probability distribution representing the ...

(

base rate In probability and statistics, the base rate (also known as prior probabilities) is the class of probabilities unconditional on "featural evidence" ( likelihoods). It is the proportion of individuals in a population who have a certain characte ...

) and under-weigh new sample evidence when compared to Bayesian belief-revision. According to the theory, "opinion change is very orderly, and usually proportional to the numbers of

Bayes' theorem Bayes' theorem (alternatively Bayes' law or Bayes' rule, after Thomas Bayes) gives a mathematical rule for inverting Conditional probability, conditional probabilities, allowing one to find the probability of a cause given its effect. For exampl ...

– but it is insufficient in amount". In other words, people update their prior beliefs as new evidence becomes available, but they do so more slowly than they would if they used Bayes' theorem. This bias was discussed by

Ward Edwards Ward Edwards (1927–2005) was an American psychologist, who is prominent for work on decision theory and formulation and revision of beliefs. Education Edwards attended Swarthmore College, and then received his Ph.D. in psychology from Harva ...

in 1968, who reported on experiments like the following one:

There are two bookbags, one containing 700 red and 300 blue chips, the other containing 300 red and 700 blue. Take one of the bags. Now, you sample, randomly, with replacement after each chip. In 12 samples, you get 8 reds and 4 blues. what is the probability that this is the predominantly red bag?

Most subjects chose an answer around .7. The correct answer according to Bayes' theorem is closer to .97 ( based on Bayes' theorem:

\frac

). Edwards suggested that people updated beliefs conservatively, in accordance with Bayes' theorem, but more slowly. They updated from .5 incorrectly according to an observed bias in several experiments.

In finance

In finance, evidence has been found that investors under-react to corporate events, consistent with conservatism. This includes announcements of earnings, changes in

dividend A dividend is a distribution of profits by a corporation to its shareholders, after which the stock exchange decreases the price of the stock by the dividend to remove volatility. The market has no control over the stock price on open on the ex ...

s, and

stock split A stock split or stock divide increases the number of shares in a company. For example, after a 2-for-1 split, each investor will own double the number of shares, and each share will be worth half as much. A stock split causes a decrease of mar ...

Possible explanations

The traditional explanation for this effect is that it is an extension of the

anchoring bias The anchoring effect is a psychological phenomenon in which an individual's judgments or decisions are influenced by a reference point or "anchor" which can be completely irrelevant. Both numeric and non-numeric anchoring have been reported throug ...

, as studied by Tversky and Kahneman. The initial "anchor" is the .5 probability given when there are two choices without any other evidence, and people fail to adjust sufficiently far away. Alternatively, one study suggested that the belief revising conservatism can be explained by an

information-theoretic Information theory is the mathematical study of the quantification, storage, and communication of information. The field was established and formalized by Claude Shannon in the 1940s, though early contributions were made in the 1920s through ...

generative mechanism that assumes a noisy conversion of objective evidence (observation) into subjective estimates (judgement). The study explains that the estimates of conditional probabilities are conservative because of noise in the retrieval of information from memory, whereas noise is defined as the mixing of evidence. For instance, if objective evidence indicates the probability of an event occurs is 1, i.e., P(A) = 1 and P(¬A) = 0, whereas according to the memory of a subject, the probabilities are P(A') = 0.727 and P(¬A') = 0.273 respectively. When the evidence is noised by memory with probability of P(Á , A') = 0.8, p(¬Á , A') = 0.2, P(Á , ¬A') = 0.2 and P(¬Á , ¬A') = 0.8, the estimate (judgement) is smoothed to be P(Á) = 0.636 and P(¬Á)=0.364. The estimated values (0.636, 0.364) are less extreme or more conservative than the actual evidence (1 and 0). In an incentivized experimental study, it has been shown that the conservatism bias decreased in those with greater cognitive ability, though it did not disappear.

References

{{reflist, refs= Edwards, Ward. "Conservatism in Human Information Processing (excerpted)". In Daniel Kahneman, Paul Slovic and Amos Tversky. (1982). ''Judgment under uncertainty: Heuristics and biases''. New York: Cambridge University Press. {{ISBN, 978-0521284141 Original work published 1968. {{Cite journal , doi=10.1037/a0025940 , title = Toward a synthesis of cognitive biases: How noisy information processing can bias human decision making, journal = Psychological Bulletin, volume = 138, issue = 2, pages = 211–237, year = 2012, last1 = Hilbert, first1 = Martin, pmid = 22122235, url=http://www.martinhilbert.net/HilbertPsychBull.pdf {{cite journal, last=Kadiyala, first=Padmaja, author2=Rau, P. Raghavendra, title=Investor Reaction to Corporate Event Announcements: Under-reaction or Over-reaction?, journal=The Journal of Business, year=2004, volume=77, issue=4, pages=357–386 , jstor=10.1086/381273, doi=10.1086/381273. Earlier version at {{doi, 10.2139/ssrn.249979 Bayesian inference Belief revision Cognitive inertia Cognitive psychology Error Ignorance

In finance

Possible explanations

See also

References