The panelists agreed that it seems like many advisors and investors are trying to follow Peter Lynch’s recommendation to “invest in what you know,” which exacerbates the home country bias.
Newcomb argued that there are deep behavioral tendencies that cause people to recoil from international opportunities. Human beings become more resistant to dedicating resources to an investment the farther away an investment feels, a concept called psychological distance, she said.
While physical distance measures the mileage between two objects, psychological distance measures how far away something feels, and it’s made up of four dimensions: physical distance; time; social distance (whether is it happening to something the person is close to); and hypothetical distance (whether it’s something guaranteed versus a remote possibility), she said.
“Whenever we’re making tradeoffs in our mind, we’re making decisions based on a mental model of a scenario, and it’s subject to psychological distance,” Newcomb said. “I care more about something if it’s happening here, now and to me, and if I feel like it’s something that’s guaranteed to happen. When you have something close or distant on one dimension of psychological distance, it feels closer or more distant on the others."
This impacts people's view of companies that are based far away, she said. "it’s going to feel more risky even though you have no less control in that scenario than you do if you hold a U.S. company. It’s adding a perceived risk that people will avoid.”
Newcomb said that advisors, despite their higher levels of financial literacy, are just as prone to home bias as the rest of the investing public.
Psychological distance also exposes investors to concentration risk, said van Beek.
“We have had a lot of clients working for big U.S. companies who were paid very well, and partially in stock options,” van Beek said. “When we talked to those clients about investments, they asked us to invest their extra money back into their companies. Besides their stock options, they wanted to put 25 percent of their personal savings into the same company. That’s where the advisor needs to come back and talk about diversification.”
Yet behind every decision is a narrative that an investor or advisor tells themselves, said Newcomb—when markets go down, for example, people tell themselves that their nest egg is in trouble. Or millennials who are having trouble saving enough to invest tell themselves that the financial industry is corrupt. To manage investor fears, advisors have to manage the financial stories that clients tell themselves, the panelists said.
Hall argued that the media’s market coverage, also prone to home bias, shapes many people's narratives.