I have a confession to make: I love Talenti gelato. I often stop at Whole Foods to get a pint of Sea Salt Caramel. I consider it a guilty pleasure for two reasons:
• I often eat the whole pint before I get home.
• It’s $4.99 for ONE pint.
That’s almost $40 a gallon, and just about every time I buy it, I think about how crazy it feels to spend that much on a pint of gelato. Then a few weeks ago, things changed.
As I opened the freezer section, there was something new sitting next to my Talenti: Jeni’s Splendid Ice Creams. Jeni’s offers a Salty Caramel flavor!
Then my eyes landed on the price: $11.99 a pint!
At that precise moment, I noticed a shift in my thinking. Somehow the appearance of an $11.99 pint of gelato made me feel much better about my purchase of the $4.99 one. I smugly grabbed my regular Talenti and walked to the checkout counter feeling as if I had saved $7.
At that moment, I anchored to a number. The price of the gelato I normally buy didn’t change. It was still $4.99 a pint. What changed was how I thought about that price compared with the new option at $11.99 a pint.
Now, I have to confess that I tried Jeni’s Salty Caramel, and I can make a strong argument that it’s worth every penny. But as this experience shows, anchoring to a number can change the way we think about our financial decisions. I went from thinking it was crazy to spend $4.99 on a pint of gelato to convincing myself I was “saving” $7.
Anchoring is a well-known financial problem, and my gelato buying captures a simple version that doesn’t cost me much in the big scheme of things. But it can become a problem when making big financial decisions, like buying a house or a car and selling stocks.
1. Buying a House
In May, the Journal of Economic Behavior Organization posed the question: What happens when someone selling a house sets a high asking price? The researchers determined that a higher asking price (10 to 20 percent over the actual value of the house) led to a higher selling price.
Buyers weren’t stopping to ask the obvious question, “What’s the actual value of a particular house?” Instead they were focused on the asking price, anchoring to the higher number, and bidding more than they needed to. The ultimate price made them feel as if they were getting a deal.
2. Buying a Car
Next to buying a house, a car is usually one of the biggest financial decisions we make. It’s also heavily influenced by anchoring. For instance, when you go to the dealership, it’s not unusual for the discussion about price to become a discussion about the monthly payment you can afford. “Don’t worry about the sticker price,” the salesman says. “I can get you that monthly payment.”
By anchoring the big price of the car against the smaller monthly payment, we miss asking important questions like, “How much will I pay in interest?” If the monthly payments seem reasonable when compared with the price of the car, it can seem like we’ve made a good decision when in reality it may end up costing us more than we ever planned to spend.
3. Selling Stocks
I discussed this issue a few years ago, but it’s worth pointing out again that anchoring isn’t limited to buying stuff. We do it when we’re selling, too. The classic example is the stock you bought last year for $50 a share. Today, it’s worth $30 a share.
Instead of assessing whether it’s a stock you should own based on your goals, you’re looking at the number. You tell yourself you’ll sell when it gets back to $50. By anchoring to the bigger number, you’re ignoring the other reasons that it may be time to sell, including opportunities to make investments that better fit your goals. It’s a decision that may end up costing you more than $20 a share.
Knowing that we’re inclined to anchor, the smartest thing we can do is take the time to figure out our real numbers. If you’re going to anchor, anchor on a number that’s relevant to you and your decision. Don’t let someone else set the number that determines if you buy or sell.
By taking the time to know which numbers really matter, like the actual value of a house or how much interest you’re paying, you’ll avoid this classic behavioral mistake. And if you’re really lucky, you’ll have saved enough so you can try Talenti’s or Jeni’s for yourself. But be warned: It’s a hard habit to break.
Article source: http://www.nytimes.com/2013/08/26/your-money/a-sweet-lesson-in-price-perceptions.html?partner=rss&emc=rss