Self-Enhancement

What Is Self-Enhancement?

In psychology, self-enhancement is a common emotional bias. Also referred to as the self-enhancing bias, self-enhancement is the tendency for individuals to take all the credit for their successes, while giving little or no credit to other individuals or external factors.

People may emphasize their positive attributes, while, at the same time, highlighting negatives associated with others. In behavioral finance, this can impact investors negatively because they become overconfident about their abilities; they will attribute past success to their own skill and reject the role of timing or other factors in those outcomes.

Understanding Self-Enhancement

People who have achieved success, in the financial markets or otherwise, have the tendency to attribute much of that success to their hard-work, skills, intelligence or creativity. Luck and other outside influences are largely discounted, lest they diminish the credit due to their own explicit abilities.

When a person seeks to self-enhance, they may conveniently discount important factors. For example, investors who are self-enhancing may attribute their portfolio returns largely to their stock selection skills rather than a bull market occurring over the same period of time.

Self-enhancement is an example of an attribution bias. Attribution biases involve systematic errors in attributing the reasons of causes for events or behaviors. The flip side of self-enhancement in investing is people's tendency to attribute mistakes or losses to factors beyond their control.

Together, these two attribution errors are known as self-serving biases. Some individuals may even perceive losses as evidence of malicious intent by other market participants, which is called hostile attribution bias.

Of course, for some investors, it may be true that they are above average in trading skill, but they still lose big due to market factors beyond their control. (It may even be true that dishonest or malicious actors have indeed cheated them or rigged the market.) It is important to note that, while the concepts of self-serving bias and self-enhancement are general tendencies of human behavior, they only apply to individuals when these beliefs are in error.

Example of Self-Enhancement

A common example of self-enhancement is the finding that most people rate themselves "above average" when asked to rate their abilities and rate others as "below average." Most people rate themselves above average at driving a car, while rating other drivers below average. By definition, it is impossible for everybody to be above average in their driving ability.

People also tend to rate their personal attributes — such as attractiveness, intelligence, leadership ability, and patience — as above average.

Self-enhancement can occur in many different situations and under many different guises. The general motive of self-enhancement can have many different underlying explanations.

In a financial context, self-enhancement can serve as something of a call-option. Whereby an individual can selectively exercise the call-option to attribute self-enhancing outcomes to their own design, they might let the option expire under scenarios they wouldn't want to take credit for.

Disadvantages of Self-Enhancement

As mentioned, self-enhancement leads to overconfidence, and overconfidence of any sort puts investors at a disadvantage in the market. Investors can quickly go from discounting information that diminishes their ability to discounting market data that goes against their investment thesis. It is also important for investors to improve on how they make decisions.

If investors attribute all their losses to the fickle market and all of their gains to their skills, they will never be able to improve their understanding of how the market actually works. Recognizing and overcoming your own self-enhancement and self-serving bias can be an important step in improving your investing skills and strategy. To do this, an honest and objective analysis of past decisions, performance, and outside factors is necessary.