High self-esteem is good, right? What possible good would a lack of confidence do for me? In the past few decades, much attention has been given to the value of high self-esteem. We try to raise our self-esteem through workshops, affirmations, school programs and outlawing the use of red ink in grading papers, cooperative games where everyone is a winner, etc. The theory is that if we feel more confident in our abilities, we will do better in life. Certainly, higher self-esteem is associated with psychological, social, and evolutionary benefits.
But is it possible that high self-esteem can hurt us? Well in terms of financial health, the answer is a resounding yes. Research has shown that men are more confident in their financial knowledge and skills than women. With this higher level of confidence, they are more at ease making investment decisions, such as buying and selling stocks. However, when we tally up the stock market scorecard with our red pen (sorry kids) women outperform men by an entire percentage point. Why? Well it turns out that men make more trades than women, racking up more fees and damaging their overall returns. Apparently, a healthy dose of self-doubt is highly adaptive in the world of finance.
Researchers have found some interesting differences between men and women in how they make sense of successes and failures. When things go bad, men tend to attribute their outcomes to external factors, allowing them to keep their self-esteem intact. “I lost that tennis match because my racket strings were too loose,” or “My stock pick was a good one, it was just that stupid CEO who ruined my return.” At the same time, men also tend to attribute their successes to internal traits, such as their innate intelligence or ability. In contrast, women are more likely to look internally for explanations when things go wrong: “I lost the match because I didn’t practice enough,” or “I probably didn’t research that stock enough.” They also have a tendency to explain successes as being less due to their abilities and more a result of the effort they put into a task.
In terms of learning from our investment mistakes and increasing the likelihood we will not repeat them, self-doubt is much more beneficial than externalizing blame in an effort to keep one’s self-confidence intact. In turn, attributing our successes to our innate abilities can be even more dangerous, as our successes can set us up for a much higher fall, as we are tempted to take higher risks. In his books, Fooled by Randomness and the The Black Swan, Nassim Taleb makes an excellent case for the human tendency to ignore the role of randomness in our accomplishments, and illustrates the dire consequences associated with this critical mistake. The fact is, if you roll the dice enough times you will win. Or if enough people are rolling the dice, someone will win quite often for no other reason than random error (also known as dumb luck).
In our financial decisions, the problem arises when: 1) we conclude that our successes are due to our special skills, instincts, or particular methodology, without considering the role of randomness and luck in our outcomes, or environmental factors such as a general bull market, and 2) if we put exclusive blame for our failures on external factors, which robs us of the opportunity to learn and grow. Without adequate self-doubt and humility, we set ourselves up for failure. In terms of your financial decisions, a lack of confidence will serve you well.
