The Most Catastrophic Decision-Making Error

Quick Insight

“No problem in judgment and decision making is more prevalent and more potentially catastrophic than overconfidence.” - Scott Plous in The Psychology of Judgement and Decision Making

We all think we’re better than average. 82% of college students in a survey said they are in the top 30% of drivers with the best driving record. That’s mathematically impossible and points to a bigger thinking problem.

Entrepreneurs are the poster children for overconfidence. The vast majority of new companies fail, yet we are confident ours will be one of the few that survive. People who rise to top management of large companies also tend to be overconfident.

Here’s a list of errors made by overconfident leaders:

  • Underestimate the odds of extreme outcomes (“black swans”) so they are unprepared for them. For example, most banks had written pandemic response plans that were written years before COVID struck. Did you?
  • Engage in more value-destroying mergers.
  • Take on too many projects, many of which have low to negative profitability. 
  • Cause their companies to run with too little cash, which increases stress and decreases profits.

What’s the answer? Use the devil’s advocate and premortem techniques that I talked about in another Quick Insight. Daniel Kahneman, the Nobel prize winner, says that simple formulas are often more accurate than our subjective choices. Run the numbers. Run your idea past a colleague or advisor.

I wish you honesty about your company – and your driving. I wish you well.

And I wish you happy holidays!

- Rob Stephens

Further Insight

CFO Perspective Resources

  • Video: How To Avoid Business Decision-Making Mistakes - I explain some common business decision-making mistakes and how to overcome them. Learn more about dozens of decision mistakes and how to avoid them in my behavioral finance program.
  • Course: Behavioral Finance - Overcome your destructive financial impulses by understanding common thinking mistakes. With my Behavioral Finance course, you can avoid these costly financial decision-making mistakes. The course will help you to learn science-backed ideas to make better financial decisions.

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