Investing seems easy at first glance—buy some shares, wait for them to go up, and make money. But this basic idea can be misleading. Many beginners enter the world of investing with too much confidence, only to realise later that they knew far less than they thought. This is a classic example of the Dunning-Kruger Effect, a psychological bias where people with low knowledge in a subject overestimate their understanding. In investing, this overconfidence can lead to costly mistakes.
What Is Dunning-Kruger Effect?
The Dunning-Kruger Effect was identified by researchers David Dunning and Justin Kruger in 1999. Their studies found that people with limited skills in a particular area often lack the ability to recognise their own limitations. Because of this, they tend to overrate their competence.
On the other hand, people who are genuinely skilled or well-informed often underestimate their abilities. This happens because the more they learn, the more they realise how much there still is to understand.
How It Shows Up in Investing
Overconfidence Among New Investors: Many people start investing after watching a few videos online or hearing stories of quick profits. At this early stage, they feel confident—sometimes too confident. They might believe they have a special edge or instinct, and may dismiss more cautious or long-term approaches.
This can lead to:
• Jumping into stock picking without proper research
• Following social media tips or trending stocks blindly
• Underestimating risks
• Ignoring expert or professional guidance
As a result, they may experience losses and eventually realise that successful investing requires more than just enthusiasm.
Hesitation Among Growing Learners: Some investors, after learning more about the risks and complexity of the market, begin to doubt themselves. They start seeing investing as too difficult or risky and may become overly cautious.
They might:
• Delay investing altogether
• Keep their money in savings accounts only
• Fear making the “wrong” choice and miss out on long-term growth
In reality, they may already have enough knowledge to begin—but the fear of not knowing everything holds them back.
How to Avoid the Trap
1. Start With Humility
Accept that no one knows everything about the market. Even experienced investors can’t predict every up and down. A humble attitude creates space for better learning and more careful decisions.
2. Focus on Long-Term Investing
Trying to “beat the market” or chase short-term gains often ends badly. Instead:
• Think in years, not days or weeks
• Understand that markets will rise and fall, but long-term trends matter more
• Avoid reacting to daily news or share price movements
The most successful investors build wealth slowly and steadily.
3. Use Simple and Proven Investment Tools
You don’t need to be an expert to invest wisely. There are simple options that don’t require constant attention:
• Index funds: These follow the performance of a broad market index like the Nifty 50 or FTSE 100
• Mutual funds: Professionally managed funds where your money is pooled with other investors
• Systematic Investment Plans (SIPs): A way to invest small amounts regularly, which helps reduce the impact of market ups and downs
These tools are built for long-term growth and reduce the risk of poor decision-making.
4. Educate Yourself – But Take Action Too
Learning is important, but don’t wait until you “know it all” to begin. Some good steps include:
• Reading trusted books like The Little Book of Common Sense Investing by John Bogle
• Watching educational videos from reliable sources, not hype-driven channels
• Following news from neutral financial websites rather than opinion-based platforms
At the same time, apply what you learn slowly and thoughtfully. Start small if needed, but do start.
5. Avoid the Noise
The financial world is full of advice—much of it unhelpful. Be careful about:
• Loud predictions on social media
• People promising high returns with low risk
• Pressure to act quickly
Investing is not a race. Slow, steady, and informed decision-making is usually the most effective approach.
6. Review Your Assumptions Regularly
As you invest, take time every few months to reflect:
• Am I overconfident about something I don’t fully understand?
• Am I letting fear stop me from investing?
• What have I learned recently that can improve my decisions?
This habit can help you stay realistic, open-minded, and calm—even during tough times.
7. Consider Getting Advice When Needed
If you’re unsure, it’s okay to speak to a certified financial planner. They can help you:
• Set achievable goals
• Build a strategy that suits your risk level
• Stay on track when markets feel uncertain
Good advice can help you avoid emotional or rushed decisions.
Final Thoughts
The Dunning-Kruger Effect reminds us that confidence is not always a sign of competence—especially in investing. Many people lose money not because they lack intelligence, but because they overestimate their understanding too early.
By starting with a humble mindset, choosing simple tools, continuing to learn, and focusing on long-term goals, you can avoid this common trap. Investing is not about being the smartest person in the room—it’s about being consistent, patient, and willing to grow over time.
[The writer has a keen interest in business and the dynamics of stock markets]
