View
144
Download
4
Tags:
Embed Size (px)
Citation preview
Presentation to the Senate Group
René Prinsloo & Terence Craig
19 March 2015
Psychology of Investing:
Avoiding common pitfalls
Source: Kevin Kallaugher 2
Portfolio Managers
21 years’ industry experience
Joined Element as Director & CIO in March
2001
Since April 2001 responsible for:
Investment philosophy and process
Portfolio management
Investment team development
Prior:
Allan Gray – Portfolio Manager
Taita (Private Equity) - Director
Terence Craig49, Chief Investment Officer
B Bus Sc (Hons), CA (SA), CFA
14 : 21Element : Industry Experience
René Prinsloo35, Portfolio Manager
B Sc (Hons) - Act Sci, FFA, CFA
8 : 10Element : Industry Experience
10 years’ industry experience
Glacier, Investment Analyst
Lecturer at Stellenbosch
University
Joined Element in Nov 2007
Appointed PM in June 2012
3
Agenda
Investing biases:
Herd behaviour
Optimism
Overconfidence & the Valence effect
Anchoring
Familiarity
Framing
Denial
Loss-aversion
Illusion of Control
Ignoring the warning signs
4
Herd behaviour
Rand forecasts
5
Herd behaviour in Rand forecasts…
Difficult to forecast
Rational forecasts
Irrational, herd driven
6
Current forecasts not yet indicative of herd behaviour
7
Avoid the Herd by sticking to a process…
R/$ exchange rate
PPP fair value
20% band
At extremes, reversion to mean becomes increasingly likely
Source: Element Investment Managers, 28 Feb 2015
8
Coping with Herd behaviour
Large market moves can become self-fulfilling
Important to try insulate oneself from the “noise”
Sticking to a process becomes increasingly important
Important to be able to “hang your hat” on something
9
Optimism bias
Earnings Forecasts
10
Forecast for ALSI earnings vs Actual
ALSI earnings nearly always lower than what had been expected
Feb 14: 10.2% higher
Feb 13: 13.5% higher
Aug 14: 8.6% higher
Source: Element Investment Managers, 28 Feb 2015
11
Consensus nearly always too optimistic
Source: Element Investment Managers, 28 Feb 2015
12
Very important to adjust for analyst bias
Source: Element Investment Managers, 28 Feb 2015
13
Conclusion: ALSI more expensive than it appears
Source: Element Investment Managers, 28 Feb 2015
14
Standard Bank: Downside > up-side surprises
Source: Element Investment Managers, 28 Feb 2015
15
Group 5: Downside >up-side surprises
Source: Element Investment Managers, 28 Feb 2015
16
Woolworths: Exceeded expectations
Source: Element Investment Managers, 28 Feb 2015
17
Nampak: Perennial disappointment
Source: Element Investment Managers, 28 Feb 2015
18
Coping with the Optimism bias
Analyst forecasts, collectively, are almost always too high
Forward PEs are too low, the market is likely (80% to 90%
probability) more expensive than it looks
We should expect to be disappointed
Analyst bias can easily be adjusted for
19
Overconfidence & The Valence Effect
Inflation forecasts
20
Overconfidence bias…
“A careful survey in Sweden
showed that 90 percent of
automobile drivers
considered themselves
above average. And people
who are successfully selling
something, as investment
counsellors do, make
Swedish drivers sound like
depressives.” Charlie
Munger
“Every parent thinks their
child is above average
until they get that first
report card”
Typical response to survey: “I
know everyone thinks they are
above average, but I am!”
21
SARB Inflation Forecasts -Good Forecasting
Oct 02CPIX
May 09
CPI
Oct 10
Source: Element Investment Managers, SARB
22
Poor Forecasting
23
Oct 01
May 04
Nov 07 Jun 14
Source: Element Investment Managers, SARB
SARB almost always gets the direction right
Feb 2010
Source: Element Investment Managers
24
Most Recent – December 2014
5%
5%
5%5%
5%5%
5%
5%5%
5%5%
5%5%
5%5%5%
5%
5%
5%
This outcome has happened 16.5% of the time!
Source: Element Investment Managers, SARB
25
Extreme events happen more often than expected
Source: Element Investment Managers
26
Important to adjust for tail risk
Source: Element Investment Managers, SARB
27
Coping with the Overconfidence bias
Overconfidence – my standard deviation expectation is too low
“Unlikely” events are more likely than I think
Valence effect
Overestimate the likelihood of positive outcomes and
underestimate the likelihood of negative ones
“Experts” are often more susceptible than laymen
Re-assess what is unlikely; recalibrate expectations
Make sure clients know roughly how frequently 10%, 20%, 30%
etc. corrections occur
They are likely to naturally underestimate these events
28
Surprises to look out for in 2015
Low oil prices cause more problems than benefits
The Empire strikes back – increased geopolitical risk
SA’s credit rating gets downgraded again
The JSE ends the year down
JZ retires “ill” to Nkandla
“Grexit” happens in some form
Ireland wins RWC 2015!
29
Anchoring
Inflation forecasts
30
Bond market is great at forecasting what just happened!
Source: INET BFA, 28 Feb 2015
Bond market’s expectation for inflation over the next c10 years
Inflation over the past year
31
Coping with AnchoringAnchoring:
Relying too heavily on a specific piece of information
In this case the present environment
What is happening today tends to feel more “normal” than what
happened 10 years ago
Avoid the temptation of considering the present more representative of
what is likely than the past
Understand cycles and where in the cycle we are currently
Avoid mistaking a cyclical shift for a structural one
Take sufficient history into account when forming expectations
Ensure clients aren’t basing long-term expectations on recent bull
market performance
The phenomenon can create opportunities, as abnormal conditions become
perceived to be normal
32
Familiarity Bias
Stock Recommendations
33Source: Bernard Schoenbaum
Example: BHP Billiton
Current Recommendations:
Date: 17-Mar-15
Inet Cons: Buy
Score 75%
# 6 6 0
% 50% 50% 0%
Positive Neutral Negative
1 Barnard Jacobs Mellet SBG
2 Deutsche Securities Citi
3 Macquarie First South JPMorgan
4 UBS Ltd Investec
5 RMB Morgan Stanley Credit Suisse
6 Absa Capital Merrill Lynch
Source: UBS, Element Investment Managers, 28 Feb 2015
34
How can the average share be above average?
Source: Element Investment Managers, 28 Feb 2015
35
Familiarity bias is persistent…
Source: Element Investment Managers, 28 Feb 2015
36
Coping with the Familiarity bias
Familiarity bias:
Favouring what I am more familiar with
Analysts tend to “fall in love” with their companies
Increase in familiarity/ knowledge may lead to loss of
objectivity
Knowing a company/ asset manager too well may be as
damaging as not knowing them well enough
Related – analysts look for evidence that confirms their view
and ignore that which contradicts it
Guard against objectivity being influenced by marketing
37
(Narrow) Framing Bias
Pro-Forma or Adjusted Earnings
38
Narrow framing…
“The best example of narrow framing that I can think
of is the use of pro forma earnings. Essentially this is
a company turning up and saying, hello I’m lying to
you, these are the earnings I didn’t make, but I’d be
jolly grateful if we could all just pretend I did.”
James Montier, SocGen, 11 March2010
39
Narrow framing: US Earnings growth is an illusion…
“Whatever it takes to get that (customized earnings) number up to support a valuation, is what they’ll back out,” Anthony Catanach, University of Villanova Accounting professor
Adeptus Health: $15.8m loss to $18m profit (incl. stripping out management bonuses)!
LendingClub: Contribution margin went from negative to +44.1%(incl. stripping out general and admin expenses i.e. normal overhead)!
40
“Denial Ain’t just a River in Egypt.”
“Sometimes reality is too
painful to bear, so you just
distort it until it’s
bearable.”
Charlie Munger
“The first principle is that
you must not fool yourself–
and you are the easiest
person to fool.”
Richard Feynman
41
Illusion of control bias…
“If people want high numbers, they’ll roll the dice really
hard, but when they want lower numbers, they roll them
very gently.”
After 9/11 many people drove to their destinations rather
than fly:
"Scientists studied the aftermath and about 50% more
people died in automobile accidents in the wake of
9/11 than people who actually got on an airplane after
that tragic day.“
Michael Mauboussin
Chief Investment Strategist, Legg Mason Capital
42
Cognitive dissonance bias…
“Never try to teach a pig to sing; it wastes your time and
annoys the pig.”
Where we see an even greater discomfort is when a person of a
given mind-set or ideology is confronted with facts that
directly contradict their previously held beliefs.
“Cognitive Dissidents”: They will continue to dissent from
reality for as long as it takes to get everyone else to believe as
they do, no matter how much evidence there is to the
contrary.
When confronted with someone who has a fervent belief based
not on evidence or reason or data or logic, do not waste your
time convincing them the earth is not flat; their cognitive
facilities simply will not allow them to recognize the world is
round.
Barry Ritholtz.
43
Ignoring the warnings signs
44
Speculation in the tech sector is rife again…
Source: V. Prem Watsa, Chairman & CEO, Fairfax Financial Holdings-Letter to shareholders. 6 March 2015
45
…and has spread to the private sector…
Source: V. Prem Watsa, Chairman & CEO, Fairfax Financial Holdings-Letter to shareholders. 6 March 2015
46
The rise of Unicorns* goes exponential…
>80 private companies valued at >$1bn* by VCs (per WSJ)
c35 at time of Dot-com crash
Like most speculations – this is likely to end badly for investors!
47
What are the billionaires saying…"People have no place else to put their money, and the stock market is getting more than its share. It's very likely that something has to give here.“
Sam Zell
"There are some parallels with the collapse in home prices which preceded the financial crisis…It strikes me as completely plausible that a further decline in the euro triggers a recession in the US."
Andy Redleaf
"I am fearful that today our obsession with what will happen to markets and the economy in the near term is causing us to misjudge the accumulation of much greater long term risks to our economy."
Stan Druckenmiller
“There's no argument - you have to worry about the excessive printing of money!“ Carl Icahn
“You and I have got grandstand seats here [to an imminent market shock]," and investors are about to "find out just how illiquid it really is out there.“
Crispin Odey
“Financial markets have been exuberant over the past year ... dancing mainly to the tune of central bank decisions. Obviously, market participants are pricing in hardly any risks.”
Bank of International Settlements, 84th Annual Report
48
Managing client emotions
49
"What would you recommend in dealing with clients to eliminate
emotions and fight these forces that are out there?"
"Don't give them statistics, don't tell them what the big
macro issues are.
"This is one of the problems in our industry. We try to
communicate by using this long terminology, very fact-based
and rational and it's not effective.
Tell them stories, make it very personal - here are the
problems, recognize the extremes, be prepared for them
-- people will relate to that.“
Michael Mauboussin,
Chief Investment Strategist, Legg Mason Capital Management
ConclusionThose who do not learn from history are doomed to repeat it*
Important to learn from behavioural errors others have made
“Experts” and the rest of us are equally susceptible to biases
Knowing about behavioural biases does not remove them
It is important to remain continually aware of them
Behavioural biases create both pitfalls as well as opportunities
*George Santayana
50
Further reading on the topic
51
Signs of a turnaround in Value investment philosophy…
Longest period of Value
underperformance
Value managers fail or are
absorbed into others
Value funds disappear or are
rebranded
Clients/consultants have no
interest in discussing Value
Value becomes a four-letter word!
The end of Value Investing makes
the cover of magazines22 January 2015
52
You can follow Element in the mediaFine Business Radio, every Tuesday from 18:00 to
19:00
Playbacks available on our website
Media-section of our website:
http://www.elementim.co.za/media
TV: Fast Money on CNBC Africa, every Wednesday from 18:00 to 18:30
DSTV channel 410
53
Disclaimer
Figures quoted are from Element Investment Managers (Pty) Limited, for the period
ended October 2014, for a lump sum investment, using NAV-NAV with income
distributions reinvested.
Element Investment Managers claims compliance with the Global Investment
Performance Standards (GIPS®). The firm includes all portfolios managed by Element
Investment Managers. Element Investment Managers is an independent, owner-
managed company. It provides discretionary investment management services to
retail and institutional clients.
Element Investment Managers has been verified for the period:
1 January 2003 to 31 December 2013
Copies of our verification reports are available on request.
A complete list and description of our composites is available by contacting Sharifa
Jaffer at:
+27 21 426 1313 or at [email protected]
54
Collective Investment Schemes in Securities (CIS) are generally medium to long term
investments. The value of participatory interests may go down as well as up and past
performance is not necessarily a guide to the future. CIS prices are calculated on a net
asset value (NAV) basis which is the total value of all assets in the fund, including any
income accrual and less all permissible deductions from the portfolio. CIS are traded at
ruling prices and can engage in borrowing and scrip lending. Different classes of
participatory interests apply to the funds and are subject to different fees and charges.
A schedule of fees and charges and maximum commissions is available on request from
the company/scheme. Commission and incentives may be paid and if so, would be
included in the overall costs. Fluctuations or movements in exchange rates may cause
the value of underlying international investments to go up or down. The funds are
valued daily at 15h00 and forward pricing is used. The funds may be closed to new
investments at any time in order to be managed in accordance with its mandate. Past
performance is not indicative of future performance.
Disclaimer
55
Thank you
www.elementim.co.za
CONTACT DETAILS:
• Portfolio Managers: