Recency bias

Recency bias is the tendency to give recent events disproportionate weight when forming expectations about the future, at the expense of longer historical patterns that might tell a more complete story. In investing, this shows up as assuming that whatever the market has been doing over the past few months or years is a reliable guide to what it will keep doing going forward.

A period of strong stock market returns tends to make investors expect strong returns to continue, sometimes pushing them to increase their exposure to stocks right when valuations have gotten more stretched rather than more attractive. The same bias works in reverse after a prolonged decline, when recent losses can make investors expect further losses and pull back from stocks at what may turn out to be a more attractive entry point.

Recency bias is one reason performance chasing, moving money into whatever fund, sector, or stock has performed best recently, tends to produce disappointing results, since the recent winner has often already had its best run by the time the crowd notices. Looking at returns across full market cycles, including both up and down periods, rather than just the last year or two, is a direct way to counter the bias.