For information purposes only. The views and opinions expressed here are those of the author at the time of writing and can change; they may not represent the views of Premier Miton and should not be taken as statements of fact, nor should they be relied upon for making investment decisions.
The ability to be flexible and adapt
One of the cornerstones of our investment approach is to be pragmatic. We believe this has served our clients very well over the years. However, clients often ask us exactly what we mean by being ‘pragmatic.’ In its simplest terms, of course, it refers to the ability to be flexible and adapt. However, it can be very difficult for human beings to reconsider their plan, or admit they are wrong.
Plan Continution Bias (PCB)
Indeed, a lot of research has been carried out into Plan Continuation Bias (PCB) in the airline industry, as it can be the difference between life and death. It is also more intuitively referred to as “get-there-itis’ and it is also relevant to other industries, including asset management.
More formally, PCB is defined as the cognitive bias to continue with an original plan, in spite of changing conditions and growing evidence suggesting it is sensible to reconsider. It is driven by a human preference for consistency and a reluctance to change, particularly when time and resources have been invested in the plan. Our brains favour routines as they help us manage life in a more efficient way. However, if the circumstances change, this efficiency can quickly become a liability.
Interestingly, the bias is often stronger the closer to plan completion, for example the actual landing of a plane. No doubt stress plays a role here, as elevated stress reduces the ability to think creatively, including changing tack. This bias is also compounded by other biases, such as confirmation bias, which is the inclination to search out data that support an existing plan/portfolio, and disregard data that challenge that plan.
Admitting that you’re wrong
We can all recognise these biases in our daily lives, be it at home or at work, and we know how difficult it can be to admit you’re wrong. In the investment world, for example, quantitative easing saw many fund managers struggle as they were reluctant to accept that the world had changed and, even in the face of fundamentals becoming less important, and an ‘everything rally’ taking place, they were reluctant to change their plan/portfolio. More recently, elevated inflation has forced many investors to reconsider their plan again, as fundamentals became important, and a more disciplined allocation of capital was rewarded.
The more public the setting, the more powerful PCB can be. For example, when the US Federal Reserve declared inflation ‘transitory,’ only for its persistence to prove the Fed wrong, it was visibly painful, albeit correct, for them to step away from the description sometime later. This was very important for markets, as the Fed’s transitory stance gave a very misleading steer on the path for interest rates. The Fed are now emphasising data dependency, in other words pragmatism, which, whilst giving investors less visibility, is understandable at this stage of the cycle.
So, pragmatism seems to most to be a good idea but, because of the hard wiring of humans, it can be difficult to achieve. Again, if we turn to the airline industry we can learn some interesting lessons, as the industry is generally well regarded in the strategies it has developed to mitigate PCB risk. Their learnings are numerous but include bias awareness, being aware of alternative options, regular reassessment, open communications, playing devil’s advocate and accurate data and feedback.
Designed with pitfalls in mind
In terms of our investment process, it was always designed with the pitfalls around human biases in mind and, specifically, we have a number of checks and balances to ensure we are as pragmatic as can be. For example, we are by design a small team, with no ‘committee,’ making it easier and quicker to make decisions and change direction. We always carry out a broad scenario analysis, which we call ‘scenario spaghetti,’ which makes us consider a range of scenarios, in addition to any base case. In addition, we always have a number of baskets of investments lined up on the subs’ bench, to match other scenarios, again making any decision easier and quicker. We also have a formal challenge of our base case and portfolio shape from a non-team member every month: a regular fresh set of eyes.
More specifically, we buy investments with positive momentum and sell with negative momentum. This, by its nature, forces a strong degree of pragmatism. Finally, we only place limited value in models as, based on historic data, they can often be unhelpful in changing course when faced with new sets of data.
We don’t pretend our approach is perfect. It can sometimes lead to a degree of chopping and changing, which is unhelpful, but we believe it is better than allowing stubbornness to flourish, especially in a changing environment. To end, remember the famous words, often misattributed to Keynes: “When the facts change, I change my mind – what do you do, sir?.”
