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Monday, 21 July 2014

Mistrust the Financial Storytellers

Homo narratus

Homo sapiens is the storytelling ape. We make sense of the things that happen in the world, of the things that happen to us, and even of ourselves, through stories and narratives. Consciousness is perhaps best defined as the stories we tell of ourselves as coherent individuals passing through time.

So it's not surprising that we're inclined to favor people who tell stories over those who crunch data. Words are human, numbers - somehow - are not. But the real stories lie in the numbers and, in investment, people who tell stories without the numbers are mystics and shamans, or worse.

Meta-representation

The ability to think beyond the here and now is almost exclusive to humans. Our ability to draw on memories of previous generations, of previous cultures from thousands of years ago is unparalleled, at least on this particular lump of rock. We are able to understand representation - the ability to understand that a sock puppet can represent a priest or a (fictional) hobbit can represent the forces of good - and beyond that, to understand metarepresentation: we understand that these representations are representations (see, for example, Leda Cosmides and John Tooby's Consider the Source).

This ability is entwined with theory of mind which I discussed in A Keynesian Theory of Mind - our ability to understand and interpret the intentions of another person, an ability which is so natural we only realize its existence when we meet someone who doesn't possess it - we call them autistic. All of which means, unsurprisingly, that we're interested in stories about people trying to understand the minds of other people. Novels, we call 'em. Stories. Narratives. And in the right place, at the right time they are downright wonderful.

But in the wrong place, misused and misconstrued, they're awfully dangerous because the psychological drives that inspired someone to write down the The Epic of Gilgamesh 3,000 years old are the same motivations that today cause us to read novels, go to the theater or watch soap-operas on TV. Yet we didn't really nudge economic development above sustenance levels until the end of the eighteenth century: the world's wealth and population development has come on the back of scientists, not of storytellers. And there's a reason for that.

Subjectivity

Stories are one person's view of the world. In fact, even stories about science are stories from the writer's perspective. And to write a good book about science you have to adhere to the narrative conventions if you're going to make it interesting. Science, generally, is a good deal messier than that because it's more like real life than a story. And the problem is that one person's view of the world, their story, is never really the truth. The truth comes from data, when the data is evaluated in the right way.

So anyone who deals with data has a responsibility to try to represent that data faithfully. Of course, if we're to make the data accessible to as many people as possible then we have to make compromises, but the one thing we should never do is to ignore the data completely in order to tell the story. To ignore the evidence when it's available is the act, and art, of a shyster.

Unfortunately the web is infested with investment websites that tell stories without backing them up with evidence. Many of these are attractive because they offer narratives that show people striving for financial independence, addressing very real challenges as they go, playing on the ability of a good storyteller to trigger those ancient mechanisms of meta-representation and theory of mind to inspire confidence and liking. But each individual storyteller's experience is just that - individual. Random events in a single person's life do not amount to a template for an investment strategy.

Hallucinogens

All too often, these websites extol the financial virtues of whatever financial philosophy they've chosen to follow over the well-trodden path favored by the multitudes. And to do this, of course, they must carefully cherry-pick their evidence and must favor introspection over analysis, because if they have no special insight into their chosen subject or into themselves they're just another wattle-dobed witchdoctor chanting incantations in a haze of drug induced hallucinations.

But, of course, they don't have any special insight, just a inspiring and appealing story that triggers those ancient responses. Fundamental to our sense of wholeness and individual stories is the introspection illusion, the idea that while you may be as biased as the next person I am not (see: Bamboozled by Your Blind Spot Bias). And I am not less biased because I behave less biased but I am, in my own mind, less biased because I intended to be less biased, but failed because of some unfortunate happenstance that is, inevitably, outside of my control - yet another manifestation of the disposition effect.

The trouble is that everyone thinks like this, because we each have a privileged insight to our own thoughts, and because we believe that we are conscious agents in charge of our own destinies. No matter how much I, or the rest of the world, may beat the drum that says that much of our behavior goes on out of conscious thought the reality is that none of us really act like that's true, even if we believe it. 

Psychobabble

And this is why you'll find the majority of investment websites peddling pet theories which at best ignore this evidence and, at worst, actively argue against it based on personal experience. To the extent that investing is an offshoot of psychology this is a well-worn path - psychology has been beset from the outset by the argument that individual experience - so called phenomenology - should take precedence over controlled studies because the latter ignore the nature of what's going on in our heads: they remove the very essence of what it is to be human.

The argument is that personal experience is just as valid as "objective" studies and is not transferable, but the main point is that it shouldn't be represented as representative. My experience of the world may be no less valid than yours but no matter how much I may believe that science is subjective the fact is I'd prefer my planes to be designed by aeronautical engineers trying to be objective and not existential philosophers arguing that objectivity is an illusion - a position which is utter nonsense, as revealed in the saga of Sokel's Hoax.

Of course, this hasn't stopped some very clever people from attempting to argue that personal experiences are representative. The most famous versions of phenomenology are those promoted by Freud and Jung, and if there has ever been an example of narrative and storytelling usurping evidence and attempting to masquerade as science then that was it. Freudian psychodynamics is, in fact, based on the leading technological revolution of its time - hydraulics. Hence it's full of emotional metaphors about pressure and release, dams and reservoirs. It all makes human sense, it appeals to our emotional centers, it's a brilliant narrative; but that's all it is - it's not science and it's not true.

Emotions

In fact the debate between the proponents of individualistic emotional experience and generalized scientific evidence is a false dichotomy. Emotions are at the heart of behavioral psychology because the rational human mind cannot be separated from the emotional one - emotions evolved to help us make decisions, so ignoring them (as much of 20th century psychology and virtually all of 20th century economics did) isn't so much foolish as deluded (see, for example: Get an Emotional Margin of Safety).  Much of the research into behavioral psychology and finance in the last fifty years has been about finding ways of accessing those internal personal experiences and turning them into external, impersonal data.

There are, perhaps, even worse investing offerings out there than the non-evidence based ones - there are the fakirs who drape themselves in the respectability of evidence. As we saw in T is for Texas Sharpshooter Effect it's incredibly easy to find some data that supports your pet theory and then present this to the world as the incontrovertible proof of your particular party piece. Even better it's possible to mine the data to find illusory correlations which can then be waved about as "proof": see Twits, Butter and the SuperBowl Effect. But in a world of infinite data there's evidence for everything if you can't - or won't - attenuate the noise.

The Meaning of Money

As I've discussed many times before, to find meaning in life and a purpose for investing we need to look inside ourselves and away from finance. Money is not and never will be an end in itself, and no matter how much of it you obtain it will never, ever make you happy - especially if you baseline yourself against the neighbors. 

But if the purpose of investing is to make money in order to fund the things that will make us happy then we need to do it properly, and not muddle it up with confused narratives that trigger inappropriate subjective responses to roughly objective decisions.  So don't treat investing like a narrative in which you're a protagonist and don't read websites that describe investing that way because they're using the same psychological triggers that make narratives so attractive. 

For entertainment read fiction, watch movies, go to the theater and be inspired by what you see, but for investing seek out the writers who draw on personal experience to illuminate general principles backed up by evidence and data. They're out there if you look hard enough.

(P.S. You can find lots through the curated and aggregated content of the forecast free Abnormal Returns). 

7 comments:

  1. And paradoxically I find myself in the middle of a narrative...maybe a more interesting post would be what constitutes objectivity in writing. Another interesting post would be to hear definitions of the terms you use, such as: objectivity and science. This is especially true in light of Taylor's double-slit experiments in modern physics that show that scientific objectivity is an illusion.

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    1. I read through your post, but where is the discussion in the double slit about the important role of conscious choice? Or the inseparability of consciousness in wave collapse? The double slit experiment has since (expensively) been scaled up to the molecule level. My point is that you are on the hook for a definition of objectivity. Also, your definition of what is science is escaping me in the response you provide above. Do you mean scientific method? Or do you mean an underlying philosophy such as rational determinism? Materialism? You seem to be throwing around important terms fast and loose.

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  2. A large majority of investors just want to get from point A to point B and are frustrated ( or have no interest in ) by the storytelling / science, jargon, and technicals. It would be productive if financial representatives would just say " here's what we/you have in our portfolios, here's what how our process performed in the past, and with x amount of volatility. Do you think you can deal with that ?"

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    1. Define volatility. Which measure is best? Is semi-variance better? Can your mom understand semi-variance? (Bet she can't). Is all volatility risk?

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  3. What useless tripe. All you've done is tell people to trust no one. If you want this to be useful, you should tell people what to do, not just what not to do. But, then, that would be your useless, biased, OPINION.

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  4. Never trust people with no answers. It's easy to talk about a problem when you present no solutions. You sound smart, and there's no way to judge outcomes - because there are none.

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