Humans are scientifically referred to as Homo sapiens – the wise, rational being. In reality, however, we often act emotionally or allow ourselves to be guided by social influences, particularly when investing. Three behavioural phenomena play a central role: herd behaviour, overconfidence and cognitive biases. Those who recognise these mechanisms can avoid them more effectively, says Dr Michael Heldmann, CIO Equity at Allianz Global Investors.

Michael Heldmann

People make decisions through two systems: a rational, deliberate system and an intuitive, impulsive one. Daniel Kahneman described these as ‘System 1’ and ‘System 2’ in his book Thinking, Fast and Slow. We might also think of them as an angel (rational) and a devil (instinctive) sitting on our shoulders. In prehistoric times, our intuitive side helped us react quickly to danger. Today, however, that same impulsiveness also influences our financial decisions – often without us even realising it.

The fear of missing out

Herd behaviour arises when people collectively do the same thing for fear of missing out (FOMO). A historic example is the 17th-century tulip mania in the Netherlands, when tulip bulbs reached absurd prices before the market collapsed.

Later examples are numerous:

- The stock market bubble of the 1920s and the crash of 1929

- The Japanese property and equity bubble of the late 1980s

- The dot-com bubble of the 1990s

- More recent hypes surrounding meme stocks and cryptocurrencies

We also see this behaviour in the short term. On Black Monday, 19 October 1987, the S&P 500 fell by more than 20% in a single day, driven by panic, even though the economic fundamentals remained relatively sound.

Herd behaviour leads investors to buy at inflated prices in euphoric markets and to sell in panic during downturns. Emotions such as greed and fear are powerful drivers in this process.

Overconfidence: the illusion of knowledge

Human beings are constantly learning. Yet in complex markets, no one can oversee everything. Nevertheless, we frequently overestimate our own knowledge and abilities – a phenomenon known as the Dunning-Kruger effect.

A classic example of overconfidence is Eastman Kodak. The company dominated the photography market for decades and even invented the digital camera in 1975. However, management sidelined the innovation in order to protect its profitable film business. Competition and technological change ultimately led to Kodak’s decline.

Investors, too, can become overconfident. When share prices rise, success is often attributed to personal skill. In 2023–2024, major technology companies such as Nvidia dominated the market. The broad hype surrounding artificial intelligence made these stocks relatively easy to identify, but overconfidence may have blinded investors to risks when performance began to diverge.

Overconfidence has a third dimension: confirmation bias. People tend to seek out and value information that confirms their existing beliefs, while ignoring contradictory signals. In an age of social media and personalised news feeds, this effect is amplified.

For investors, this means actively searching for information that challenges their own views – however uncomfortable that may be.

Cognitive simplification and bias

Our brains constantly simplify information. This is efficient, but it can lead to systematic errors.

Home bias

Investors tend to invest primarily in their own country. A 2023 study by Barclays showed that British investors allocated around 25% of their portfolios to UK equities, even though the UK accounts for only about 4% of global market capitalisation.

While familiarity, currency risk and political considerations all play a role, this preference limits diversification and therefore effective risk management.

Anchoring

The anchoring effect occurs when people are unconsciously influenced by a reference point. In financial markets, this often happens with round numbers or record highs. When Germany’s DAX surpassed 25,000 points in early 2026, or when Nvidia reached a market capitalisation of more than USD 4 trillion in 2025, these milestones attracted significant attention.

Objectively, however, such round numbers are no more meaningful than slightly higher or lower levels. Without context – such as adjusting for inflation – these records reveal little about actual valuations.

Outsmarting the devil: systematic investing

How can investors avoid these behavioural pitfalls? One possible solution lies in systematic investment strategies, such as the Best Styles approach of Allianz Global Investors.

- Systematic strategies:

- Are based on academic research and historical data

- Operate according to predefined rules

- Measure and manage risk consistently

Avoid emotional reactions

Computers know neither fear nor greed. Shares are purchased only if they meet objective criteria and sold when they no longer do so. This helps to reduce herd behaviour, panic selling and excessive concentration.

However, this is not a panacea. Data may be biased and models may contain flaws. In 2007, the widespread use of similar quantitative strategies even contributed to collective market behaviour and sharp losses.

Human responsibility therefore remains essential. Systematic processes must be carefully designed, monitored and refined.

Man and machine

Investing is ultimately not a choice between human or machine, but a combination of both. The rational ‘angel’ is supported by data and discipline, while human experience and critical judgement remain necessary to review and adjust models.

Those who are aware of herd behaviour, overconfidence and cognitive biases – and who invest in a systematic and disciplined manner – increase their chances of achieving consistent and robust long-term results.