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Most private investors are regulars at The Tavern of Missed Opportunities. This hostelry has a lower profile than The Last Chance Saloon. It has no permanent premises. Its bitter ale is served ad hoc.
The bar staff are volunteers and come in many guises. There is the ex-colleague you run into who turns out to be worth paper millions thanks to buy-to-let. Shame the upside is no longer there for newbies, he says.
Then there is the fellow tourist you chat to on holiday. She thinks it is hilarious that anyone invested in stocks when she has done so much better from purchasing second-hand insurance policies. Pity it is now a crowded trade.
This is a column about the behavioural quirks that skew investing. So we should acknowledge the potential biases behind the testimony of casual acquaintances. Their desire for admiration means they disclose more good decisions than bad ones. The sample of successful private investors we encounter is meanwhile created by “survivorship bias” — losers are, by definition, excluded.
It is more instructive to contemplate opportunities we need no prompting to know we have ignored. A reader has asked for a column on this subject. So here goes.
I can think of three examples that demonstrate biases identified by behavioural finance gurus. In the first two cases, my failure was vicarious. I was precluded as an FT writer from buying stocks I wrote about. And shares were unavailable anyway, because these were private companies. I could have trumpeted the businesses as future successes, however, and won some predictive kudos.
Exhibit A is OpenAIthe Californian artificial intelligence start-up. In 2021, I got a press pass to use its chatbot GPT-3. I was impressed. Here, I realised, was a system with potential to beat the landmark Turing Test: to pass for a human being when interacting with people remotely. That ability would be both dangerous and valuable.
I could have made myself look smart. I could have written a heavyweight article proclaiming OpenAI as the future, encouraging readers to invest in companies proximate to the privately held business.
However, there was little buzz around OpenAI just then. Few investment pundits were writing about it. Tech experts I spoke to said the company was a long way from making its technology commercial.
So I copied what a bunch of other journalists had done. I used ChatGPT to produce some fiction and penned a light-hearted piece of my own describing the yarn.
You know the rest. Early in 2023, Microsoft agreed to invest $10bn in OpenAI. The company launched its improved proof of concept, ChatGPT4.0, that year. OpenAI recently had a mooted value of $150bn. Nvidia, another beneficiary of AI exuberance, is capitalised at over $3.4tn.
I dropped the ball because of groupthink. But the blame is mine, not the group’s. A real investment opportunity is, by definition, something you have spotted when many others have not. In contrast, anything explicitly labelled “investment opportunity” is primarily an opportunity for an investment company to charge you some fees.
Russell Napier tried to cheer me up with the likely hypothesis that the AI boom is heading for a bust. He is an investment strategist and keeper of the Library of Mistakes. This is a genuine institution, unlike The Tavern of Missed Opportunities. It is based in Edinburgh and is dedicated to the study of financial disasters.
“History suggests we will see a dramatic halt to investment because almost no one is making a decent return from deploying AI,” Professor Napier says. “It should be possible to come along afterwards and find winners by digging in the rubble.”
Volume B in my own Bookshelf of Blunders is BrewDog. Almost 20 years ago I sat on the judging panel of a UK enterprise awards. The craft brewing start-up was a candidate.
I do not remember who won the national award. I only remember it was not BrewDog. Co-founder James Watt came on stage to collect a consolation prize. He bore a bottle of his beer aloft, like the Statue of Liberty with her torch. His message, pithily expressed, was “Runner-up? We’ll show you!”
The following year, Tesco started stocking Punk IPA, BrewDog’s flagship product. It became by some measures the UK’s most popular craft beer.
Provocative marketing raised brand recognition. A questionable corporate culture stirred controversy. BrewDog’s last published accounts — the current set are late — showed a loss. But annual sales stood at over £321mn. Not bad for a company that started as an Aberdeenshire microbrewery.
I thought BrewDog would never be more than a small business. This reflected recency bias: the assumption that current circumstances represent normality and will persist.
Back then, UK brewing was dominated by a handful of multinationals with economies of scale producing bland beer in huge factories. I saw this as a barrier to entry. In reality, it constituted an opportunity for craft breweries. Consumers wanted something different.
What of loss aversion? This, after all, is the keystone bias in the architecture of behavioural finance. The theory pioneered by Daniel Kahneman and Amos Tversky is that the pain triggered in us by a financial loss is greater than pleasure from an equivalent gain. This discourages risk-taking.
Most private investors can think of examples when their nerve failed. This brings me to Exhibit C, BT group.
In February, I wrote some analysis of the UK telecoms company for a private client. I opined that incoming boss Allison Kirkby was well-placed to re-rate undervalued shares with bold, clear reforms. In May, Kirkby outlined these. The stock has risen 36 per cent since.
I was not working for the FT at the time and could have bought shares in BT. I did not do so. For years, the business had disappointed investors. This had made me risk-averse. I was willing to expend ink, but not money, on a bull case for the company.
Some experts, while acknowledging loss aversion as a concept, doubt that it occurs as reliably as behavioural economists typically believe. Julie Nelson, emeritus professor of economics at the University of Massachusetts Boston, has, for example, smartly challenged myths of high female risk aversion.
She says: “It is a vast oversimplification to think there is a single parameter that explains attitudes to risk in all circumstances.”
However, loss aversion remains a useful explanation for many investment sins of omission. It gives us a framework to diagnose and hopefully reduce our biases as we ponder them in The Tavern of Missed Opportunities.
Make mine a pint of the BrewDog, if you’re buying.
Jonathan Guthrie is a journalist, adviser and former head of the Lex column. [email protected]