How to Avoid Being Weighed Down by The Anchoring Effect
The Anchoring effect occurs through relying too heavily on the first piece of information obtained in the decision making process. Typically subsequent information will be processed in relation to the anchor instead of independently. So for example in a negotiation the initial price offered dictates how subsequent offers are perceived instead of an independent evaluation of whether the offer is fair.
Another way people fall into the anchoring trap is from using price as an indication of quality. So if something initially comes to your attention with a high price it will be perceived as being high quality as well. If subsequent research indicates the quality of the item is suspect it just happens to have a high price oftentimes this information will be reasoned away because the initial impression of quality based on price can be hard to shake.
I know this has happened to me when it comes to restaurants. When I’ve heard about a hot place that’s hard to get into and priced accordingly. I go on-line to check it out and even though Yelp or another review site is basically screaming at me through the computer to not go. I rationalize away the reviews and decide to go anyway and I’m invariably disappointed by the experience because it did warrant the cost for dining there.
Toy companies routinely deploy the anchoring effect ruthlessly as demonstrated by the annual crazes involving a hot toy. A no win situation parents become familiar with. Your child becomes fixated on the hot toy because everyone else wants it.
Even when presented with a wide range of arguments as to why this particular toy isn’t the best option and the reasons to consider a substitute the child will not budge from their desire for the hot toy with any substitute being clearly inadequate. So you either end up getting the toy while paying a premium price and face inevitable disappointment when your child gets their hands on it and realizes it’s not all it’s cracked up to be or even worse you don’t get the toy, fail as a parent, and the world ends.
How the Pros Anchor
Now paying a little too much for a toy at Christmas time can be irritating. Anchoring is deployed by real estate professionals all the time though to influence the purchase of what is oftentimes a person’s largest investment, their home. The way it works is the real estate agent will take you to a crappy home in your price range first to anchor your expectations. By doing this subsequent homes with similar prices will seem like good deals and boost the prospects for a sale.
This happened to me when I purchased my first home. The first place I visited with my real estate agent was a 100 years old and located in a scary canyon. After that experience every house looked like a steal in comparison. So of course I ended paying full price to buy the third home I looked at.
On-line clothing retailers have become adept at using anchoring through twofer or threefer offers were they show the price of two or three items when purchased together initially and then compare this price to the item when purchased individually. Anchoring the value of a multi-item purchase in people’s minds and subsequently comparing it to the price of an item when purchased individually has proven an effective tool for them to increase their sales given how frequently this tactic is now encountered when shopping on-line.
The reason retailers have whole heartedly embraced this tactic is that it is as effective as discounting at prompting purchases while increasing overall sales due to the requirement to purchase multiple items.
Resisting Anchoring
Resisting the anchoring effect is challenging so the best way to combat it oftentimes is to not let it take root in the first place. If you are in a negotiation and the other side makes an outlandishly high or low offer walk away immediately. This is an intentional tactic and indicates the other side has no interest in coming to a mutually beneficial deal. They are probably seasoned at negotiation and know there is no chance of the offer being accepted. They just want to frame subsequent rounds of negotiation in their favor. They are looking to extract a counter offer from you to kick things off knowing that if they are able to engage you in a negotiation they have an advantage due to their superior skill at negotiating.
If possible try to value something beforehand. This way you will walk into a negotiation with an understanding of something’s general worth and it’s specific worth to you. This has the added benefit of limiting regret in the future as well if the product becomes available at a more deeply discounted price. While it certainly would have been nice to save the additional money. You paid what the item was worth to you and you could not be sure it would become available at a lower price at a later date so you can still feel good about your purchase.
He's published three books. Most recently The World After Covid 19: Coexisting with the Novel Coronavirus.
His musings can be found at stevenlmiller.me. Subscribe to The Pompatus Times for updates.
The CFA designation is globally recognized and attests to a charterholder’s success in a rigorous and comprehensive study program in the field of investment management and research analysis.
CFA® and Chartered Financial Analyst® are registered trademarks owned by CFA Institute.