Perils of Anchoring

Anchoring bias can discourage good decision making, particularly as it relates to investing, particularly in this environment. Decisions around selling, holding or buying stock is often referenced to arbitrary prior prices as opposed to objective planning opportunities.

Over the past several months, we've seen this phenomenon play out with stock based compensation. Many RSU's and options are significantly underwater from last year. During 2020 and 2021, we observed more openness to hold shares due to the assumed ongoing expected price appreciation. Over the past six months, we see a similar openness to hold, but for a different reason. To recover. 

Over the past 13 years, investors have been conditioned to expect swift recoveries in stock prices following a selloff. Stocks almost certainly would reach another all-time high within weeks or months, in a classic V-shaped manner that we all had become accustomed to.

I think it's pretty clear we're in a new regime and pretty clear that most employees holding underwater stock should consider the following.

Bill Gurley wrote: 

"Previous "all-time" highs are completely irrelevant. It's not "cheap" because it is down 70%. Forget those prices happened."

And while we've always known it to be true, Paul Graham reminds us of the magnitude of the return requirement necessary to return to 2021 prices.

"Many people implicitly assume that if a number shrinks by x%, it has to grow x% to get back to its old value. That's not far off for small x. A number that shrinks by 10% only has to grow about 11.1%. But a number that shrinks by 75% has to grow 300%."

This is why a diversified portfolio down 20% is much better positioned for a recovery than an individual stock down 90%. The math makes it very difficult for that individual stock to get back to where it was. Stocks down 60, 70, 80% probably won't revisit all-time highs anytime soon. Some never will again.

This all comes down to having a plan. Selling some on the way up obviously would have made some sense given where things stand today. But also consider selling some on the way down. A stock already off 50% could very well be cut in half again.

Proactive planning is the only way to successfully avoid anchoring to 2021 stock prices. Otherwise, you may be paralyzed indefinitely.