The foundation of the familiarity heuristic is an offshoot of the availability heuristic[1], whereby individuals employ a judgemental heuristic where individuals estimate probability distributions using the most readily available information, leading to systematic biases. This grows into the familiarity bias, where familiarity is favoured as it is perceived to carry less risk, over the unusual. It takes less cognitive energy to filter non-conforming information, which can trigger cognitive dissonance[2] than to process it.
A feature of this heuristic in finance is the home market bias, where investors prefer the comfort of investing in their own local market as opposed to foreign ones, so the ASX[3] for Australians. Having a home market bias does introduce some issues into investor portfolios, especially in Australia, where there is a high percentage sector weight to Finance and Materials in our index and minimal weight to Technology and Health, which lessens the power of diversification within the portfolio[4].
Over the years, the barriers to investing offshore have decreased as online services[5]have proliferated and its now cheap and easy for investors to add offshore diversification to their portfolios. One way of encouraging clients to step out of their f familiarity zone is to add holdings slowly and with minimal weights to start if they are attempting direct investments. From an asset allocation perspective, the same can apply, begin with a smaller weight to get clients comfortable with the new experience, before increasing the weights as they get more comfortable with the experience.
[1] Tversky, Amos; Kahneman, Daniel (1973). “Availability: A heuristic for judging frequency and probability”. Cognitive Psychology. 5 (2): 207–232. doi:10.1016/0010-0285(73)90033-9. ISSN 0010-0285.
[2] Refer to Cognitve Dissonance.
[3] Australian Stock Exchange.
[4] https://www.vanguard.com.au/personal/learn/smart-investing/investing-strategy/home-equities-bias
[5] eToro, IG, Superhero, CMC Markets, Stake etc