In behavioral finance, the ostrich effect is the avoidance of apparently risky financial situations by pretending they do not exist. The name comes from the common (but false) legend that ostriches bury their heads in the sand to avoid danger.

Galai and Sade (2006) explain differences in returns in the fixed income market by using a psychological explanation, which they name the “ostrich effect,” attributing this anomalous behavior to an aversion to receiving information on potential interim losses. They also provide evidence that the entrance to a leading financial portal in Israel is positively related to the equity market. Later, research by George Loewenstein and Duane Seppi determined that people in Scandinavia looked up the value of their investments 50% to 80% less often during bad markets.

The original paper cites that investors prefer financial investments where the risk is unreported over those with a similar risk-return profile and frequently reported risks. Other examples include:

  • Averted Gaze: for example, avoiding the gaze of your financial manager after discussing a potential financial loophole.
  • Counterfeit problems: a subject avoids addressing a certain problem by instead creating a larger problem as a result of the former. For example, a partner in a firm has had communication issues with the other partner. He feels that he is doing the majority of the work. Instead of addressing the issue the partner asks his team to create a partner buyout plan.

Leave a Reply