Sam Sivarajan is the founder of The Goals-Based Advisor, a behavioural coaching and consultancy firm working with financial advisers and wealth-management firms.
Supreme Courts have been making the news lately. Not so much for their official decisions – although they, too, have made many headlines – but for the private actions of the justices. And the lessons from these incidents allow us to draw parallels and implications for investors and advisers.
In the United States, recent detailed reports emerged about the hospitality received by Supreme Court justices Clarence Thomas and Samuel Alito from billionaires – including private jet travel and exclusive lodges – amounting to tens of thousands of dollars. The reports highlighted the fact that these items were not disclosed, nor did the justices recuse themselves from the court cases that involved these billionaires. When questioned, the justices suggested they didn’t believe these items had to be disclosed and that, in any case, they did not influence their legal decisions. This prompted observations like the one from Senator Dick Durbin, an Illinois Democrat and chair of the Senate judiciary committee: “We wouldn’t tolerate this from a city council member or an alderman. And yet the Supreme Court won’t even acknowledge it’s a problem.”
This failure to acknowledge the problem is a perfect example of the blind spot bias: We acknowledge that bias exists – but only in others, not in ourselves. And, if the blind spot bias can affect members of the top courts, it can affect all of us.
In the medical profession, for example, a 2007 U.S. report stated that pharmaceutical firms employed about 90,000 sales representatives and spent more than US$7-billion or US$15,000 per physician annually on gifts, meals, travel perks and other benefits. The report studied whether physicians could become conflicted when making decisions about prescribing drugs or treatments. Interestingly, the report found that most physicians believed that their colleagues are susceptible to being influenced, but that they themselves are not. As other researchers noted: “Clearly, it cannot be true that most physicians are unbiased and that most other physicians are biased.”
This isn’t a criticism of physicians or judges – or any profession, for that matter. It is simply a fact that we all face conflicts of interest every day. The key point is that we are not even aware of our biases. For instance, in an experiment, individuals had to perform a task with another individual and then were given pay to divide between the two. Most individuals kept more than half if they completed more work or worked longer than their colleague; however, most still kept half even if their colleague had completed more or worked longer.
What does this mean for investors? At a minimum, it means recognizing that, based on all the evidence, we need to accept the fact that biases may affect our decisions. And that applies to our assessments of recent market movements, our preference for particular types of investments, and our rejection of data or evidence that is contradictory to our viewpoints. It also means that investors should ensure that the recommendations they get from their professional advisers are free of biases or conflicts of interest as much as possible.
Advisers, in turn, also need to be aware of their own biases. Again, in most cases, the biases are not deliberate or borne out of bad intentions. For example, Canadian research found that advisers’ preferences (e.g., their return expectations and asset allocation choices for their own portfolios) had a larger influence on their recommendations to investors’ risk-taking than the investers’ own preferences (18 per cent compared with 12 per cent).
Similarly, in experimental research conducted by the author, advisers were provided with the same hypothetical client situation, including a completed risk questionnaire, and asked to provide a portfolio recommendation. The resulting recommendations showed remarkably wide variation, suggesting that investor risk profiles have less predictive power than one would expect. In this research, it was the adviser’s own return expectations that was the most significant predictor of the level of risk recommended to the hypothetical client, not the client’s answers to the risk questionnaire or other personal characteristics.
Biases affect all of us. But awareness of these biases and acceptance that we are all susceptible is the start to not letting them drive our decisions. As the Taoist philosopher Lao-Tzu, said: “Knowing others is intelligence; knowing yourself is true wisdom. Mastering others is strength; mastering yourself is true power.”