The key to making good investment decisions lies in keeping cognitive biases in check, Standard Chartered’s Steve Brice tells Kenneth Lim
When Steve Brice, Global Chief Investment Officer (CIO) at Standard Chartered, holds an investment committee meeting, one of his rules is that participants should not stake a position and try to win the others over.
“We don’t say, “I think’,” he explains. “We say, ‘One perspective I’ve found’.”
The problem with participants cajoling and advocating for their own ideas is that it creates an abundance of confirmation bias, Brice says. That is why his investment committee debates are set up to encourage uncovering a wide range of credible viewpoints as opposed to selling a thesis.
Unconventional investment committee rules are just one of many ways that Brice fights against biases. To him, the key to making good investment predictions lies in keeping unconscious tendencies in check.
As CIO, Brice provides his banks’ clients with advisory solutions while also managing discretionary portfolios. At the moment, the discretionary portfolio is just under US$2 billion in assets under management, more than four times the amount at the start of 2023.
Before taking his current appointment, Brice held roles at the bank that included Head of Global Markets for Southern Africa, Head of Research for the Middle East and South Asia, and Chief Economist for South-east Asia. Through his journey, he has developed scepticism about the efficient market hypothesis, which posits that markets are efficient and that share prices reflect all information.
“Everyone talks about the efficient market hypothesis, but we think markets are more adaptive. The efficient market is physics applied to finance. The adaptive market acknowledges biology’s influence because of behavioural biases.”
The efficient market is physics applied to finance. The adaptive market acknowledges biology’s influence because of behavioural biases
Every individual develops a tendency to perceive a certain set of circumstances in a certain way, and that perception is greatly influenced by the individual’s experiences, Brice says. For instance, an investor who grew up in the late 1990s – when the Asian Financial Crisis and the Dot Com bust hit markets – is “unlikely to be an avid equity investor”.
Furthermore, people are naturally inclined to react more strongly to recent developments and to negative information. Brice recalls a point that venture capitalist Morgan Housel made in his book, ‘The Psychology of Money’. In the book, Housel described a hypothetical situation in which a Japanese academic in the late 1940s was describing what would happen in Japan over the next 30 years as a forecast.
From the devastating ashes of World War 2, post-war Japan’s economy grew multiple times in the next few decades, life expectancy almost doubled, and the country became an industrial powerhouse, among other remarkable feats. That forecast would have seemed ridiculous at the time, Brice says.
“If you read a negative headline, it will have a greater impact on you than a positive headline. People are distrustful of positive news,” says Brice, who adds that he refuses to click on reports calling for a collapse of the stock markets.
To mitigate these cognitive biases, Brice goes through a disciplined approach that he describes as looking at both the “outside” and “inside” views. It is a technique he borrowed from yet another book: ‘Superforecasting’, the study of successful predictors by Wharton professor Philip Tetlock and journalist Dan Gardner.
In simple terms, an outside view is like a base probability, where if one had absolutely no additional information, this would represent the odds of an outcome occurring.
“The simplest form of an outside view is that equities outperform two-thirds of the time,” Brice says. “If you believe that equities are going to fall over the next 12 months, history would suggest that only one-third of the time does it happen. So what compelling evidence do you have that it’s going to happen? Timing that is extremely difficult, even for professionals. Today, if you ask me, ‘How bullish are you?’, my knee jerk [reaction] is that I’m worried. But I’m always worried, so what makes this time different?”
Adjusting Expectations
The outside view needs to be complemented with the inside view, which is where the specialist’s view is used to adjust the base probability to account for circumstances.
It’s all supposed to work well in theory, but balancing the inside and outside views is an art form.
Take the COVID-19 pandemic, for instance. As the world went into lockdown, Brice says that the outside view had to be thrown out.
“The outside view at that stage was not very relevant as we did not have a playbook on how markets might respond to a global pandemic,” he says. “Therefore, we had to focus more on the inside view and how this might play out.”
The inside view at the time was that the size of the policy stimulus and the profile for COVID cases were the two things to focus on. As equity markets fell, Brice’s team urged against selling near a bottom, and instead to hold and look for long-term value opportunities.
The call was right. Brice measures performance by looking at the value of short-term calls in their tactical asset allocation models versus their strategic asset allocation models. For their balanced allocation, Brice’s team generated 5.6 per cent alpha from 2017 to 2021.
However, things were not so rosy between 2022 and 2023, where the team lost 3.6 per cent over the period. In 2022, both the outside and inside views pointed to recessions. Like many other investors at the time, Brice was an unfortunate bear.
“We characterise 2022 as the second-worst environment for investors in the past 150 years,” he says. “We bought into the transitory inflation argument too long and thought that inflation was a supply-sided shock that did not require significant policy tightening. Then, in 2023, our recession indicators started flashing red which led us to be cautious on risk assets, which again cost us relative performance.
We bought into the transitory inflation argument too long and thought that inflation was a supply-sided shock that did not require significant policy tightening. Then, in 2023, our recession indicators started flashing red which led us to be cautious on risk assets, which again cost us relative performance
“We did say at the time that there was a risk that being defensively positioned might be a little too pre-emptive, but the resilience of the US economy in particular, was surprising.”
One important signal was the amount of excess savings in the United States. Initially, the data showed excess savings dwindling towards pre-pandemic levels, Brice says. That usually meant that consumer spending would slow significantly, supporting the bearish stance.
But the data was later revised higher, which led Brice and his team to become more bullish. In 2024, the balanced allocation was up more than 7 per cent in the first half of the year, with positive alpha of 0.9 per cent.
“At this point, we became more optimistic on the economic and equity market outlook and went overweight equities,” he says. “At the beginning of 2024, we believed that the recession risks could rise as we went through the year, but felt that the tailwinds were strong enough in the short term to remain overweight equities. We could always revise our stance if the data deteriorated significantly.
“Today, the economy does appear to be slowing but with inflation coming lower as well, we believe we are likely to see lower interest rates which, at least in the near term, should be supportive of equities and bonds. Maybe this is the main lesson we learnt: To be willing to take advantage of the near term and worry about the longer term later.”
Finding The Right Balance
It can be a challenge to know how much weight to put on the outside view, and how much to put on the inside view. This has been particularly so in the post-pandemic environment has been challenging because the outside view has not been as reliable, Brice says.
For instance, 10 of 14 recession indicators that Brice’s team tracks have been triggered since 2022. Some of those indicators – such as certain areas of the yield curve – have historically been excellent predictor of recessions, Brice explains. That should normally be a major red flag, except that the recession has yet to show up.
Brice is closing watching inflation and excess savings for signs of normalisation. Inflation is unusually high at this time, and outside views that do not stretch as far back as the 1970s will probably give false signals, he says. The amount of fiscal injections that have put money into bank accounts is also unprecedented. As those two factors get back to more normal footing, “the outside view is likely to become more reliable,” Brice says.
“We’ve been saying at some point it will normalise,” he says. “We did deprioritise the outside view a bit, because – and I hate those words – ‘This time is different’, but it really was. Now, just because they’ve been right this year, it could just be coincidence. I’d be more comfortable saying we’re back to normal if inflation is back down to 2.5 per cent or below. We’re obviously getting closer to that point, and I’m increasing the weight to them again. Not to pre-COVID levels, but more normalised.”
Even with all the rigor of balancing outside and inside views, it’s still difficult for an individual to escape personal tendencies. That’s why Brice is a firm believer in diversity, and why his investment committee meetings are run the way they are.
“When you get to a high degree of uncertainty and complexity, an individual expert is the last person you want to give you advice,” he says.
Sharing the results of some internal tracking, Brice says that equity specialists are surprisingly good at predicting bond asset class outcomes, and vice versa. He believes that this might be because the external party sees things that the internal party misses, and is more open to changing its mind. That is why an information-sharing slant to investment meetings is important.
“The key is to continually challenge yourself to be as unbiased as possible and open yourself to new and different points of view,” he says. “We know attaining this is impossible, but if you do not try, your decision-making is likely to be very sub-optimal.”
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