With the Christmas shopping and spending in full flow here are a few short thoughts on money and wealth.

Know your run rate
This is not rocket science – just Mr Micawber accounting. All you have to do is keep a record of your income and spending. Ah but “All you have to do” turns out to be tough, most of us hate doing that, we have a tendency to bury bad news (over spending, poor investment decisions etc.) and then wait /hope/pray that things will turn for the better.

Don’t spend capital to live
Your capital is your seed corn – it needs to be preserved to generate future growth and income. It should be guarded very carefully – certainly not blown away on day to day living. Frugal spending is important, if not a little dull.

Don’t borrow to buy a wasting asset
What is the most stupid money decision we make – well borrowing money to buy a car must be right up there. Borrowing and paying interest to buy an asset that will collapse in value over a short number of years is madness.

Save first
This is a great little rule from none other than Warren Buffet. If you plan to save and invest regularly, make sure you deduct the savings from your earnings first. Most people spend and try to save anything leftover. This often means regular savings and investments get curtailed or cancelled completely.

Re-invest your investment income
This simply exploits the joys of compound interest. If you can compound your portfolio at just over 7% pa (7.2% to be exact) you double your money every 10 years. Taxes and inflation will hurt of course but nevertheless it’s a simple way to grow your investments.

Forget stock picking – pick managers
You may be lucky and get a winner now and then – but unless you are a professional fund manager don’t even try stock picking, it’s highly likely you won’t be very good. Of course picking managers is not easy – far from it, many are somewhat mediocre, and they often turn out to be shadowing an index whilst trousering large fees. So perhaps better to be in passive investments i.e. index tracking?

Be cautious of index investments
Buy the index and reinvest the income and leave well alone – this seems the best approach? Well up to a point Lord Copper. Tracking doesn’t allow you (or your active fund manager) to step aside and take a defensive approach at any time nor to weight yourself towards potential winners. This brings us full circle as to whether or not you can pick an above average active fund performer. Unfortunately, research shows active managers tend to disproportionally either outperform or underperform in a portfolio of active and passive managers. So you pay your money…………

Forget speculation
Forget it – you are highly likely lose. Remember the 90-90-90 rule in margin trading. 90% of clients lose 90% of their money in 90 days!
In the UK – Spread betting companies now have to put a warning on possible losses – here is a recent one I saw:
75% of retail investors lose money when trading CFDs with this provider. You should consider whether you can afford to take the high risk of losing your money
Enough said!

And finally beware of exciting investments
I make it a point to always avoid fads and “exciting” new investments. Excitement often comes at the top of a market – In investment the aim is consistency, not chasing the latest bit of froth.

Merry Christmas and a Prosperous New Year!

We are constantly being assailed by stuff about leadership. How to be a better leader, how to think like a leader, what would the greatest leaders do? There is a huge global industry around teaching everyone to be a leader, but one wonders how much of this exhortation is of any value, or indeed is actually used outside conferences and middle management away days?

Books on the topic are legion, not to mention training courses and endless sage thoughts from management gurus. Trying to cut through this jungle of advice, academic research and sometimes frankly whacko ideas can be an exhausting if not fruitless task. So where to find straightforward advice?

For me still one of the most interesting observations on leadership was from German General, Kurt von Hammerstein-Equord who in 1933 as Chief of the Army High Command, supervised the composition of the Wehrmacht manual on military command. Here are his thoughts on who to select for high command and they still seems fresh and pertinent today; and in barely more than a hundred words!

 

I divide my officers into four groups.

There are clever, diligent, stupid, and lazy officers. Usually two characteristics are combined.

Some are clever and diligent — their place is the General Staff.

The next lot are stupid and lazy — they make up 90 percent of every army and are suited to routine duties.

Anyone who is both clever and lazy is qualified for the highest leadership duties, because he possesses the intellectual clarity and the composure necessary for difficult decisions.

One must beware of anyone who is stupid and diligent — he must not be entrusted with any responsibility because he will always cause only mischief.

Hammerstein-Equord was side-lined into forced retirement by Hitler in early 1934 – one wonders which group he would have placed the corporal turned Fuhrer?

Recently I was asked to contribute some ideas on the future of behavioural economics – these my v short thoughts

The past ten to fifteen years has seen an explosion in the development and use of behavioural economics (BE). One driver was clearly a dissatisfaction with the traditional economics concept of homo economicus or the “rational actor”.

My sense is that whilst BE has demonstrated a far better way to examine and explain economic activities, it really only looks at part of the issue. It pretty much concentrates on agent behaviour (whether individual or group) and has yet to develop into a wider understanding of overall activity. I think the “missing piece”, that will be worked on in the coming years, is network theory; and in particular applying ideas from Complexity Science.

So my “predictions/guesses” for the next twenty years (!!) are:

Some of the existing BE will challenged successfully by traditional economics – e.g. facile laundry lists of biases and loose talk about rationality will be seen to be unhelpful and a dead end.

Also the field of physics will put in a strong challenge to some BE ideas of irrationality – we are already seeing this with a battle developing around the application of ergodicity to challenge marginal utility. I have no idea how this will pan out.

Where I feel more confident is that lessons from biology (e.g. spread of medical viruses and the concept of super-spreaders) and in particular Complex Adaptive Systems will play an important part. In time whilst I think BE will retain a strong place in explaining the actions of agents, it will also be complemented by explanations of how these agents, act and react within networks. Importantly Complexity will show many network relationships are not linear and may well be inherently “unpredictable”. (This may be bad news for main stream economic commentators?).

Finally, a short example, let’s consider systemic risk in the global banking system. Currently there is massive regulatory oversight of individual financial institutions (the agents in the system), and a great deal of interest in BE about their choices regarding decision making. In future (work has already commenced by some central banks) there will be much closer analysis of the connectivity between institutions and the sometime hidden or only partially understood networks that may underlie the financial system. These ideas will also be useful in patterns of consumer behaviour, the role of “influencers” in markets….and perhaps an uncomfortable thought, this network analysis will show that much will remain unpredictable and may even be random.

So I think BE is only a partial answer – it has been v successful in uncovering agent motives and actions, but it will be Complexity Science that builds on it to help us having a more complete (or perhaps more accurately a less incomplete) understanding of economic activity.

Last night I was very lucky to see the first ever screening of the documentary The Divided Brain held at a private viewing at Ogilvy in London.
Hopefully this film will be broadcast in many countries soon – it’s a fascinating examination of the brain and its functions by leading academic & thinker Ian McGilchrist
Here is a link to the trailer
The Divided Brain
Also I very much recommend his book
The Master and His Emissary
https://www.amazon.co.uk/Master-His-Emissary-Divided-Western/dp/0300188374/

Major Speaking Themes for 2019

The Over-Connected World
The world is becoming more vulnerable as everything gets more connected. The Internet of Things even allows your phone to control your fridge! However, attacks on networks can flash around the world in seconds.
Are we living in a “Brittle New World” that is prone to sudden catastrophic risks? Can businesses survive an Electronic Hurricane?
What lessons can we learn from Complexity Science?

Evolution & Unpredictability
Evolutionary Biology suggests we are a mistake – the product of chance mutations. Can this offer lessons in risk taking & decision making?
What chance do we have of predicting the future?
Can evolution offer better ideas and ways to think and plan for the future?

The Big Data Dilemma
The current excitement regarding “Big Data” is everywhere – Is this misplaced?
The banks started crunching masses of data in the 90s and then applied sophisticated models for risk that proved disastrous. Is the rest of the commercial world about to make the same mistakes?
Do we risk making poor decisions because of “Model Mania” and misunderstanding the limitations of data?

Maybe it’s the political atmosphere or the still felt aftershocks of the credit crunch from ten years ago – but uncertainty still seems to be the watchword of the day.

Lots of clichés tumble out about the U word. We are told markets can’t stand it, in commerce firms sell solutions and boast how they can eradicate it; and for many religions certainty is their stock in trade, indeed they often promote their priests and prophets as Merchants of Certainty. Uncertainty must be banished if not eliminated.

One aspect of uncertainty that bears closer examination is how it relates to our progress through life and on the career ladder. I must say straightaway I dislike the term ladder, and think most people will find the better metaphor is a maze. We make good and bad decisions, lucky and unlucky turns in our careers and life; it’s not really a ladder we are on, more often happenstance and some stumbling along the way – just like a maze.

But as we post rationalise our previous decisions and actions we smooth out the wrong turns and bumps, attribute good luck to personal ability and try to remove bad luck from our memories. So the comforting image of the ladder redolent with a sure steady path is what we cling to. The now seemingly inevitable ascent is carefully plotted in the career history and our achievements gradually accumulate in neat order.

Now this creates a lovely feeling of control and certainty, almost as if our success was pre-ordained! Interestingly in the early stages of this climb, things are genuinely certain, from our early school days there are timetables and structure, exams and well mapped out decision points; this carries on into university though students tell themselves they are “breaking the rules”.

On entering work, again things are often pretty structured, corporate hierarchies, the demands of company values and mission statements all build the certainty cocoon. But somewhere up this ladder or more likely bumping around in the maze, things change. As we get promoted and take on more responsibility and decision making we find we are exposed to far more uncertainty. The rules based command & control structures don’t work so well in the messy slippery world of big decision making. New markets, new products, new regulations can all contribute to more of the U word.

So all that training in obeying rules and sticking to plans (as opposed to constant planning) can become redundant if not positively wrongheaded. As we climb further up we enter a void. Very different, and often totally new and unfamiliar skills and approaches are now needed, as many of the previous rules and structures fall away. This is a world where difficult questions are more important than simple answers, and are not addressed by past certainties and so called solutions.

It always fascinates me when someone has risen through the ranks of an organisation – they have somehow managed to switch from the certainty environment to the difficult slippery world of the unknown. This is a rare quality.

Wellington put it well when he said “All the business of war, and indeed all the business of life, is to endeavour to find out what you don’t know by what you do; that’s what I called ‘guessing what was at the other side of the hill.’”

Perhaps this an element in The Peter Principle – do we get promoted to the level where the uncertainties start to overwhelm us?

Here are three thinkers I enjoy and can recommend

Dave Trott
Sharp thinking and clear writing from one of the all time greats in advertising.
Blog LinkHere

Mark Blyth
Professor of Political Economy at Brown University.
Essential reading for those interested in what’s really going on behind economic data and politics.
His website
His regular podcast

David Miller
Equity fund manager, 30+ years veteran who writes about the big themes in financial markets.
Latest Blog

I must admit my heart sinks whenever I sit through a presentation that makes great use of slides with pictures of playing cards, chess pieces and pensive players, all used to reinforce the speaker’s message on strategy, or the way forward (sigh!) or the particular business mission they are espousing.

Anyone with an ounce of experience knows that business, risk and indeed life, is not a neatly packaged and defined game. In fact, it’s the exact opposite.

Consider some of the main features of chess; It has defined rules, is played in a totally linear fashion, has only one opponent and has a defined objective. Risk is almost the exact opposite of these conditions; rules are slippery and sometimes incomplete or non-existent, you are frequently up against multiple competitors, and whilst avoiding losses and trying to make worthwhile profits, objectives can change or be driven off course with little or no notice. And perhaps most devastating of all – risk is not linear, it doesn’t move around on nicely defined tramlines, indeed our attempts to build such structures to somehow contain risk is often the cause of huge problems and losses.

So why the game analogy and the players with furrowed brows? Well it’s a comfortable image, somehow we can become the clever player in a difficult game. You need skill and brains – and the presenter sells his ideas that will give you these if you follow his mantra. So yet again we are being sold what we most crave – certainty!

Certainty always sells – it is a desire very close to the human heart and mind. We feel uncomfortable with uncertainty, and to address that we try to build rules and structures we can monitor and measure, and tell ourselves we have a robust risk management regime.

Well up to a point Lord Copper – some areas of risk do lend themselves to such measures, but only if there are deep past data that behave in a predictable fashion in the future. A good example would be tide tables; from massive past data we can predict with a high level of confidence when tomorrows high tide will occur. In this very narrow example the game metaphor works, but in the slippery non-linear world of business risk such models can and do come unstuck.

In The Black Swan Nassim Taleb coined the term Ludic Fallacy to illustrate how misleading it can be to overuse games as a framework with which to consider risk. It is important that use much more agile thinking when tackling risk and uncertainty. It is frequently a world with few neat rules, lacking in past data and no amount of torturing that data will give rock solid certain guidance for the future.

One little rule of thumb I like to use, is to remember “The Map is Not the Territory”. However good your risk model it is always an approximation, an estimate built on assumptions and possibly insufficient data and can be riven with spurious accuracy and curve fitting.

Risk cannot always be solved like a puzzle, it can be more akin to riding a tiger.

Time to drop the Chessmen slides please!

This is an extract from “Two Speed World” which I wrote with Terry Lloyd and looks at the science of storytelling.

The late Professor David Ingvar a Swedish neurobiologist examined the scientific basis for storytelling. He found that a specific area of the brain, the frontal/prefrontal cortex, handled behaviour and knowledge along a timeline and it also handled action plans for future behaviour. Ingvar’s research demonstrated that damage in that area of the brain is found to result in an inability to foresee the consequences of one’s future behaviour. He concluded that the brain is ‘hardwired’ to do this and that plans are created instinctively every moment of our lives; planning for the immediate future, that day, that week and even years ahead. As these plans can be retained and recalled, Ingvar called them ‘memories of the future ‘.
We can illustrate this with a simple example of personal experience which we have all come across. Imagine you are taking up a new interest or perhaps sport, let’s say skiing. Before the new interest our minds had no particular focus or thoughts on the topic – but now suddenly we find there seems to be lots of magazine articles, perhaps special sales offers on ski equipment, and we notice more and more people seem to be talking about skiing! A coincidence or something weird is going on? In fact it’s neither, for as Ingvar’s research demonstrated we are now tuning our minds to potential future pathways and outcomes – in this case skiing. As a result we are building a memory of the future that centres around future skiing trips and adventures.
This activity is crucial – if we don’t open our minds to such pathways and planning we simply will not retain information on a given topic. Our brains are continually bombarded with a vast number of unordered stimuli such as sights, sounds and smells which cannot all be assimilated. All the input the brain receives is compared with previously constructed future memories and if there is no match it is discarded. In other words an unforeseen event cannot be seen. It goes straight over your head, or perhaps more literally doesn’t stick in the brain.
At the group or corporate level where there is obviously more than one brain involved, it is far harder to create a shared library of memories of the future. However the importance of rehearsing all likely possible futures is clearly a powerful tool, and this was recognised in the 1980s by Royal/Dutch Shell who use it as the technical basis for their planning technique of scenarios , as will be discussed later in this chapter.
In Chapter One we recounted the story of the Rainhill trials for the selection of the locomotive for the Liverpool & Manchester railway – curiously there is a coda to this story that fits in with Ingvar’s research. At the opening ceremony of the railway, which was the first in the world to have double tracks, the local Liverpool MP and former cabinet Minister William Huskisson was killed by one of the locos as he had left his carriage and was unaware of another train coming in the opposite direction. It was if he had no previous thoughts or memories of how railways would operate, and so had no intuitive understanding of the risks posed.

Two Speed World – Ashley & Lloyd

From my book Financial Speculation

One aspect of financial losses that is often overlooked is what we may term prospecting risk. Drilling for oil, mining for metals or for that matter producing theatre shows and films all have the same risk profile, and also have some lessons for financial investment.

Typically,prospecting risk has two main characteristics: first, the risk should be spread over a number of ventures, for example a number of theatre shows. This is just normal common sense and simple portfolio diversification, and helps guard against the fact that a high proportion of them are likely to be failures. Indeed in the film industry in any ten
projects it is likely that there will be five or six total failures, three or four that barely cover costs and hopefully one or two big successes (though not necessarily blockbusters) that cover all the costs of all the films plus a healthy profit margin. Second, the timing of where the successful 10% or 20% comes in the run of projects can be vital. This may seem irrelevant, after all if say you have divided your capital up into ten equal portions and allocated it accordingly to say ten drilling projects; it shouldn’t matter whether the pay dirt strike is first or last. True but there is a very large caveat. It is vital that you stick to only using the allocated capital for each project, if you overrun your resources you may run out at, say, drilling attempt number eight, and there is a chance that the big winner would have been number nine or ten. With these types of risks containing your costs is vital, and cost overruns are the nightmare of any mining prospector, movie producer or theatre impresario. The parallel in trading is our trading losses. If we fail to exercise sufficient discipline whilst experiencing losses there will be no chance to stay in the game to catch the big winner.

Unfortunately the world is full of romanticised stories of how down on their luck business heroes conquered all by betting their last cent on the one project. (The early oil prospecting experiences of J. Paul Getty make an interesting read in this respect.) But we only hear of the great successes while the silent majority of failures disappear into the land of losers anonymous. This survivorship bias plagues the investment world.
So the lesson of losses is learn to accept them as a normal part of the investment business, but be ruthless in containing them because if you don’t the market will be ruthless with you