Ideas

Asset Managers Need Enemies

Gentle Reader - We may not be formally acquainted, but I think that I know a bit about you. Read my description of you below and tell me how accurately it describes your personality: 

“Although others may see you as put together, inside you are worrisome and insecure. You want to be admired by others and you think about this when making decisions. Although you may not have done big things yet, you feel like that day will come. You feel as though you have a lot of untapped potential. You’re an independent thinker who thoughtfully considers ideas before accepting them. You enjoy a certain amount of variety and change and dislike being restrained by restrictions or limitations. You know you’re not perfect, but you are typically able to use your personality strengths to compensate for your weaknesses.”

So, how did I do? On a scale from 1 to 5, with 5 being the most accurate, how accurately would you say I described your personality? If you’re like most people, you probably ranked that description of you as a 4 or 5, which likely puzzled you since we’ve never met. The paragraph above illustrates what is called “Barnum Effect” or alternately, “Fortune Cookie Effect”. Barnum Effect is named for P.T. Barnum, the great entertainer and circus magnate.

Barnum famously posited that “There’s a sucker born every minute” and used his knowledge of how to sucker people to get them to part with their money. Barnum’s understanding of suckers, though born under the big top, undoubtedly surpasses that of many formally trained academicians. P.T. understood what psychologists call “confirmation bias” or the human tendency to look for information that reinforces ideas we already hold.

When we receive feedback about ourselves there are two simultaneous dynamics that make up the broader phenomenon of confirmation bias. The first of these is “self-verification” which is the tendency to reinforce existing beliefs. The second is “self-enhancement” whereby we attend to information that makes us feel good about ourselves. The function of these two dynamics is clear – to maintain our self esteem and feelings of confidence. In general this is a positive, after all, who doesn’t want to feel about themselves? However, these dynamics work in overdrive in a number of instances – including when our deeply held-beliefs are challenged or our self-esteem is challenged. Confirmation bias becomes problematic when it leads us to maintain the status quo in the face of disconfirmatory information or overlook realistic, negative feedback about ourselves. In these instances, our need to feel competent can cause us to ignore warnings and make bad financial decisions that privilege ego at the expense of making money. 

It is for these very reasons that Daniel Kahneman engages in what he calls "adversarial collaboration", basically, doing work with people that disagree with him (enemies, if you're feeling dramatic). The Nobel Laureate says:

"I got into adversarial collaboration because there is a system in the scholarly literature where people critique other people's writings, and then there is is a rejoinder. That's the routine in scientific publications. I was just struck by how totally wasteful this is, because in all these exchanges nobody admits to having made an error...It's just foul actually." 

Kahneman understands that his ego - as in-check as it may be - is still keeping him from learning and growing. From testing his assumptions and considering all angles. Asset managers, whose sole job is to make good decisions, would be well-served by such an exercise in humility. When running money, keep your friends far from you and your enemies close. 

Want more great content on the intersection of mind and markets? Check out The Laws of Wealth by Nocturne Capital founder Dr. Daniel Crosby - HERE