Just a day before New Year ’s Eve, I lost my mobile phone. I had to rebuild my contact list and spend time and energy to decide what phone to buy. And suffering from the choice overload problem, I may have made a decision I could well regret. What is the choice overload problem?

I was looking for a smart phone. But with so many choices in the market, the task of choosing is complex. And complex task overburdens the brain. When the brain is overburdened, the logical part typically loses control to the intuitive side. I suspect I ended up buying a phone that is fancy, pricey and, perhaps, not-so-useful.

The choice overload problem has far reaching consequences for our investment decision-making as well.

Research conducted in the US shows that participation rates among individuals decline when they are offered more investment choices by their employers as part of their 401(k) plan. These are plans offered by employers to their employees as part of their retirement savings, much like the provident fund that we have in India. The problem arises because the 401(k) plan primarily invests in mutual funds, a market which has choice overload problem.

It appears that too many choices just paralysed the individuals, for many who did not participate in the program were giving up a matching contribution from their employers every year.

Bad choices

The research also found another interesting factor — many who did invest made bad choices. That is, when offered many choices among equity funds, bond funds and money market funds, individuals typically invested more in money market funds, funds that invest in money market instruments such as commercial papers and other short-term instruments that fetch low interest rates.

It, indeed, appears that the choice overload problem drives us to make bad decisions. How can this problem be moderated? Consumer-goods manufacturers and financial-service providers should understand this dilemma and offer fewer choices. Agreed, we are better off today than in the past because of the choices available to us, be it LED TVs, mobile phones or investment products.

Confusion

But too many choices not only leave us confused, it also makes us feel worse-off. Why? Take the active mutual fund that you bought. While you may have chosen the mutual fund that suited your requirement, your brain will be most likely obsessed with the mutual funds that you did not buy that performed better. With more choices, this feeling of regret is more. And this regret could subtract the happiness you derive from the fund that you bought.

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