You may have read Blink by Malcolm Gladwell or Thinking Fast and Slow by Daniel Kahneman. These authors and others have exposed human biases that stand in the way of making rational choices in our daily lives. There are implications for investment decision making, too. We should be looking to these insights—insights into the way we tend to think – in order to protect our investment programs from ourselves.
I’m not talking about trying to suppress our natural behaviors. We’ve tried that. The problem is most of us are indeed human—behavioral biases and all. We need to recognize that. Instead, let’s identify where the dangers of our cognitive biases are greatest and look to control the framework within which we make decisions in those situations.
One simple example relates to goals and objectives, and the impact they have on our field of view. Humans are not particularly good at multi-tasking but, rather, excel at focusing on one key task at a time. The implication is that we need to be aware of selective attention biases. We don’t see things—sometimes obvious things—that we aren’t focused on or aren’t looking for. Aside from being very clear on our ultimate objectives, possible mitigation strategies could include assigning someone as an independent risk officer or setting up a risk-monitoring program designed to flag attention to issues that we may not be thinking about. These parallel activities can help to stretch our thinking and maintain a balanced risk management perspective against which to pursue our key objectives.
There are many other areas that may be well-served by similar safety nets to protect against our natural tendencies. I highlight some of these in the Second Quarter 2014 Russell Communiqué.
At the end of the day, we spend a lot of time making investment decisions, but very little time thinking about how we make decisions. Fiduciaries charged with overseeing investment programs should consider building processes that offer appropriate protection from their own cognitive biases.
Of course, we all feel we are aware of our own behaviors, and it is natural to be in denial of the need for frameworks to protect against such. Just be aware that this is a bias in itself.
Note: One of the nice things about working at Russell is the sabbatical program—a chance to take a prolonged break after each ten years of service. As a result, Bob Collie shall be away from the office until late July. The Fiduciary Matters hot seat will be filled by guest authors over that period.