Data Driven Investor: Why the Normalcy Bias is Dangerous for Investors

Sometimes, investors get caught in market changes like a deer in the headlights. We tend to have a great few years of market performance between sharp bear markets. So it’s easy to lose our edge and forget that markets can go down.

We often have big changes occurring that take some time for investors to figure out. In economic terms, this is called normalcy bias. We continue thinking that things are normal, until it’s clear that they are not.

In a life-or-death situation, sticking with normalcy bias can lead to death. In a financial situation, it can mean being too late to avoid large losses.

Last year’s banking crisis led many investors to sudden major losses. Those who saw dangers in regional banks invested elsewhere instead. Or sold out as soon as the danger became apparent.

At the end of a crisis, the normalcy bias means investors remain fearful.

Following a bear market, a new bull market is met with skepticism. Cash stays on the sidelines. It’s only after a big move higher that the last of the fearful money moves in.

We’re now in the second year of a bull market. Investors who missed out on the bottom in late 2022 or the opportunity to buy after the various drops in 2023 may start to move soon.

When that happens, a new round of cash could flood into markets, sending them higher.

To get a full understanding of normalcy bias and how it impacts your investment returns, click here.