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The Short Answer

Are Credit Card Companies Using Your Biases Against You?

How to make smart financial decisions, when offers are designed to know you better than you know yourself.

The short answer to the title's question is probably “Yes.” Many of us know that our behavioral biases can work against us when making decisions, but it may be unsettling to discover that companies are often intentionally taking advantage of those biases.

In several ways, companies cater their marketing to exploit the biases to which different groups are subject. For example, credit card companies have offers that target certain groups’ tendency to exhibit present bias. Research by Ru and Schoar found that one key aspect determines who receives these kinds of offers: a person’s education level. Less-educated individuals received credit card offers that more aggressively shrouded bad features (like high default APRs, high late fees, or high over-limit fees) via the positioning of the information, the font size, or the complexity of the content. They are also more likely to receive offers with lower introductory APRs but higher late and over-limit fees. 

Why? Because credit card companies expect these individuals to be more prone to present bias, which is our tendency to overweigh present payoffs versus those of the future, even if the future payoffs are greater.

This isn’t the only instance in which our behavioral biases may be costing us money. When looking at advertising content for a credit product, Bertrand et al. (2010) found that content’s appeal to emotions was a bigger driver of product take-up than its price. Even decision aids--tools that companies offer to help people combat choice overload and guide them toward which product to purchase--can be used against consumers, prompting individuals to once again choose the more-expensive options.

These companies are using our biases against us when it comes to everyday consumer spending, but research suggests that these bias-exploiting tactics can have a substantial impact on investors’ portfolios as well. Hortacsu and Syverson (2004) found that investors--particularly new investors--are indeed prone to taking shortcuts, namely by focusing on factors, like fund age, that are likely less predictive of future performance than others. Not only can this shortcut damage a person’s portfolio allocation, but it can also prompt them to take on more fees. The researchers found that as an influx of novice investors entered the market, there was a notable shift of assets to more-expensive funds. That’s why it’s so important to understand these tactics and work to mitigate our biases.

Preparation is Key: 3 Ways to Help Avoid These Behavioral Biases 
We may not be in control of the advertising we are exposed to, or what offers we get in the mail, but we can make ourselves aware of situations where our behavioral biases may take their toll. When making financial decisions, try these three steps to stay in control and help avoid harmful behavioral biases:

  1. Put your goals in focus. A flashy advertising campaign focused on exotic vacations in retirement may make you focus unduly on that, and temporarily displace other more meaningful goals. Before committing to a financial decision, take some time to remember why you are doing all this in the first place. In other words, what are your financial goals? This can be a difficult question to tackle but going through a thoughtful process to discover your financial goals can help drive your future decisions--and help keep things in perspective when you come across tantalizing offers. You can use our simple, three-step process to help define these goals.
  2. Make a checklist. When making investing decisions, what matters to you? Fees? Price to value? Write out your ideal decision-making process and make a checklist so the advertising of a particular fund doesn’t tempt you to focus on a factor that isn’t truly as important to you. By the way, the same approach works for credit cards and other products. This step will help you spot any offers that may be trying to take advantage of behavioral biases.
  3. Take a break. Too often we may feel rushed into a financial decision, and this pressure may prompt us to turn to our behavioral biases for help. To avoid letting this feeling of urgency sway your decisions, make a pact with yourself to take a day or two to stew on some decisions. This time away from the decision will give your mind a moment to tap into a more logical decision-making process and refrain from any emotional reactions.

Research on behavioral biases has uncovered a plethora of ways in which our minds lead us astray when making financial decisions and, at the same time, it has uncovered ways in which our biases may be used against us. Unfortunately, we can’t completely erase our biases, but we can manage them with certain tips and techniques. With this preparation in hand, we can help our future selves make more logical financial decisions.