Behavioral Matters

June 15, 2010

Managers should love their process, not the stocks they hold. This is the wisdom handed down by great investors over the ages. The more defined and effective the process, and the more it's adhered to, the better and more repeatable the decisions. Yet evidence suggests that process is not implemented to the same degree that it's discussed. This essay discusses the nature of mistakes and how to avoid them with a checklist of process. Read more...

April 20, 2010

Skill is what separates top performing managers from the pack. Ironically, little is known about investment skill, how it is developed, how to measure it or how to improve it. The inability to isolate and measure, or even knowledgably discuss, specific investment skills has inhibited professional development. A new framework for evaluating investment skills can quantify strengths and weaknesses, calibrate their interaction with management processes and identify behavioral tendencies. In this essay we discuss the potential of a new framework to help managers realize their best. Read more...

March 3, 2010

The bedrocks of professional investing — experience, judgment, intuition and deliberation — rely heavily on the use of memory. Though it is fundamental to learning and making effective choices, memory is also highly imperfect. While memories are sometimes cherished, they can push you toward investing misadventures. This essay examines how experts look at memory and its potential for generating investing shortfalls. Read more...

January 6, 2010

By its very nature, investing requires making estimates about future events. These estimates reflect the manager's analysis of facts combined with imagining likely but unsure outcomes. Imagination is what enables skilled investors to see opportunities ahead of the crowd. It can also excite emotions that make it difficult to distinguish real investment opportunities from "phantastic" ones. Read more...

November 18, 2009

Analysis is fundamental to equity investing. Deep dives require that you apply extensive energy and talent into understanding a company and its ability to deliver excess returns. Yet this activity can awaken behavioral tendencies that short-circuit your analytic processes. Consequently, rigorous analysis can heighten the potential for over optimism at exactly the moment when greater objectivity is needed. This essay examines the importance of calibrating judgments as a critical element of self-awareness and honing investment skill. Read more...

October 7, 2009

Success in active management demands skill. But where does this skill come from? Some believe it is innate, as when Warren Buffett suggests "... I was wired from birth to allocate capital..." A growing body of evidence, however, points to nurture not nature as the source of greatness in all manner of performance. Read more...

August 26, 2009

Imagination and creativity help turn good ideas into winning strategies and great picks if they are calibrated to ensure favorable results. Imagination also can push investors toward unproductive decisions — ones that feel right while lowering performance. Known as Counterfactual Thinking, this type of deliberation can affect your interpretation of results and can shape the buys and sells you make. Read more...

July 15, 2009

Holding winners well past their alpha generation is a tendency recently identified among professional investors. These once highly productive buys inevitably devolve towards reversion to the mean, yet they seem to hold a special place in the minds (or is it hearts) of the managers. One explanation for holding winners too long is the Endowment Effect — valuing items higher when we possess them, making it more difficult to find a clearing price. Read more...

May 28, 2009

Equity investing requires the ability to price uncertainty. But at what emotional costs? Having to live with a poor outcome or the knowledge of a missed opportunity makes all people want to kick themselves. If left unchecked, these feelings influence investment decisions in unintended fashions. Read more...

April 15, 2009

Confronting our own mistakes in judgment is painful. It is one reason we rationalize. Rationalization can, however, alter our interpretation of facts and lead to ineffective decisions. Rationalization is one of the powerful unconscious forces that can drive you towards behavioral investing. In this essay we discuss rationalization, motivated reasoning and five simple ideas for greater self-awareness. Read more...