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Fund manager biases: three key characteristics to watch for

One aspect that is talked about less often is fund managers’ biases and the way they affect their investment decisions.

Fund management is often portrayed as highly analytical with managers relying on spreadsheets full of statistics like PE ratios, book values and PMI readings.

One aspect that is talked about less often is fund managers’ biases and the way they affect their investment decisions.

However, for Will Hanbury (pictured), manager of the Waverton Asia Pacific fund, bias is something that is never far from his thoughts.

‘There is a lot of psychology in fund management and being aware of the psychological biases we have can go quite a long way in helping you to perform,’ he said.

Hanbury considers The Psychology of Human Misjudgement to be his bible. He applies some of the principles featured in the book, written by Charlie Munger, vice chairman of Berkshire Hathaway, to fund management.

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Fund management is often portrayed as highly analytical with managers relying on spreadsheets full of statistics like PE ratios, book values and PMI readings.

One aspect that is talked about less often is fund managers’ biases and the way they affect their investment decisions.

However, for Will Hanbury (pictured), manager of the Waverton Asia Pacific fund, bias is something that is never far from his thoughts.

‘There is a lot of psychology in fund management and being aware of the psychological biases we have can go quite a long way in helping you to perform,’ he said.

Hanbury considers The Psychology of Human Misjudgement to be his bible. He applies some of the principles featured in the book, written by Charlie Munger, vice chairman of Berkshire Hathaway, to fund management.

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Inconsistency avoidance tendency

‘Inconsistency avoidance is when you decide on a course of action and you stick to it. When a woolly mammoth was crashing through the forest you just had to run. You didn’t run for 10 seconds, stop reassess and think am I running in the right direction. You chose your course of action and you committed to it. And the people who did that survived and prospered. The ones who reviewed their decision got crushed.’

Therefore, 100,000 years down the line, managers have an innate bias to remain committed to a holding.

In an attempt to somewhat mitigate this, Hanbury asks himself if his portfolio would look the same if he decided to build it from scratch again.

‘They should look exactly the same and if they don’t there may be some cognitive biases in there.’

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Availability misweighing tendency

‘People trust authority figures, again in evolutionary terms if your parents say “do not play near the cliff” you listened to them and that served you well,’ Hanbury said.

However, now putting too much trust in a perceived authority figure can lead you off a metaphorical share price cliff.

He pointed out that people should not be blinded by a strategist who has made a few good calls or a charismatic chief executive officer, who actually owns a struggling business.

‘You can see how you can overweight statements from these authority figures and that has happened to me, certainly with analysts.’

He added that with analysts in Asia, it is even more important to be aware of such a bias, since most have more than 20 years of on the ground experience.

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Social proof tendency

‘Everyone is doing something, so you do it as well.’

Hanbury claimed that in the past it was a safe bet to follow the herd as there was safety in numbers.

‘But in fund management terms it doesn’t work like that: if everyone is involved in one stock and you see it go up you want to get involved. But knowing these psychological biases can help you not just in terms of managing your individual portfolio but also analysing companies.

'So if you take something like Coca-Cola, one of the reasons it is such a strong brand is a lot of people drink it from the can and there is a social proof element there.

‘This leads on to deprival superreaction. If I say you can’t have a coke you suddenly really feel like one and this has an impact when you are managing a fund.’

Deprival superreaction refers to people’s tendency to strongly prefer avoiding losses.

In fund management, managers can feel compelled to buy a stock that is widely held by their peer group and is rising. He highlighted that although there are obvious disadvantages to being an Asia fund manager based in Europe, he is also somewhat insulated from initial stock market reactions. Distance puts a barrier between him and the more harmful aspects of the social proof tendency.

Over three years to the end of May, Hanbury’s Waverton Asia Pacific fund has returned 49.3% versus the Asia Pacific ex-Japan sector average return of 46.4%.

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