Counterfactual Thinking, that Sneaky Mechanism of the Mind

Investing is based the hope that assets you buy (whatever they may be) will provide (much) more value in the long run than the amount paid to buy them.

This is a simple idea, yet along the way to harvesting your investment fruits, your psychological resolve will be tested again and again, since investments, especially potentially-rewarding ones, are unpredictable. They contain inherent uncertainty, since no one knows exactly what they will do at any given point of time.

And there is not much that humans hate more than uncertainty.

None of us have a functioning crystal ball telling us what will happen next to our investments, yet everyone fears being wrong about their choices. After all, anything you invest in bears the risk of not paying off–or not paying off as well as you would have hoped. The opportunity cost of owning one investment over another can later haunt us if we find out we failed to make the best choice.

Somewhere a long the way, every investor will likely experience some regret, since it is always easy to look back and see what you should have done differently (though you can do nothing about it)!

As it happens, our minds are built to react this way. In fact, regret is the result of something called counterfactual thinking–that is, imagining what might have been. I was first introduced to the idea of counterfactual thinking in Jason Zweig’s excellent book “Your Money and Your Brain.”

As Zweig writes,

“Counterfactual thinking creates an alternative universe in which the outcomes are always knowable and the right thing to do is always obvious. The more easily you can transport yourself into one of these imaginary worlds, the more regret you will feel over the mistake you made in the real world.”

“Your Money & Your Brain,” p 202

All humans exhibit counterfactual thinking at times. Overall, it has helped our species survive: by seeing the consequences of our actions, including the mistakes we made and what we should have done differently, the regret we feel helps make better decisions in the future (A good example: maybe I shouldn’t have walked into that grizzly bear den… then my right arm wouldn’t have been chomped off).

While it can be helpful to us, counterfactual thinking can also be problematic if it leads people to obsessively compare what is with what could have been:

“If only I had bought Google when it was $2 a share! Dammit, I’m so dumb!”

“If only I had known that that broker was a scam artist. I would have saved thousands! I suck!”

Counterfactual thinking can easily put us in a continual tension between what we are actually experiencing and what our minds wish had done instead.

Zweig goes on:

The human brain is a brilliant machine for comparing the reality of what is against the imagination of what might have been. If you had no way of knowing how things might otherwise have turned out, many of your bad decisions would never torment you. Knowing (or believing) that you could have done better is what makes you feel bad when something goes wrong. The ache of regret encourages you to play out in your mind what else could have happened and focuses your attention on what you should have done instead.

“Your Money & Your Brain,” p204

The problem with the regret-generating machine of our mind, as I see it, is the excessive pain and distraction that it can cause. It is a fact of life that not every choice we make will pan out perfectly. One will probably have counterfactual thoughts from time to time. But if you get stuck thinking about what you should have done in the past–a past you can’t change–you may be distracted from focusing on what is ahead of you: that is, the better future that you can create.

Overall, I see counterfactual thinking as a double-edged sword. It can be a powerful learning tool, helping us avoid painful mistakes. Yet it can also be used as a weapon of psychological self-torment, where we obsess over choices we can’t unmake.

So I say, let’s learn from the past, yet not obsess over it. Better to keep our eyes on the future, lest we get misled by counterfactual thinking, that sneaky mechanism of the mind!

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