How does anchoring affect an investor's decision-making process?

Anchoring is a cognitive bias that occurs when individuals rely too heavily on the first piece of information they encounter (the "anchor") when making decisions. In the context of investing, this can significantly distort an investor's judgment and decision-making process.

When an investor is anchored to a specific price point—such as the price at which they purchased an asset—they may become overly influenced by this figure. As a result, they might hold onto an asset despite falling market conditions, hoping for a return to their purchase price. Conversely, anchoring can also manifest in selling decisions where an investor might prematurely divest from an asset if it reaches a certain benchmark perceived to be favorable, without adequately assessing the asset's current value or potential for future growth.

This behavior can lead to suboptimal decisions since the investor's focus is limited by the initial anchor, rather than a comprehensive evaluation of the broader market conditions or the fundamental value of the asset. In essence, anchoring skews an investor's perception and can impair their ability to make fully informed, rational investment choices. Thus, the tendency to make decisions based on these anchor points often complicates their investment strategies, which is why it leads to the potential of holding onto or selling assets prematurely.