Most investment management firms, despite their approach or strategy, have a similar investment process. In other words, the major elements of their workflows are the same even if the underlying factors or methods are different. But we are not telling you anything you do not know.
Even so, what you may never have thought of is that there is one part of the typical investment process that is most in need of improvement. Namely, how you conduct conversations with management, sell-side analysts, people in expert networks, and so on.
How can we assert that so confidently? It is because almost all of us have formal training in all of the other parts of the investment process, but not in how best to conduct conversations to ensure we extract the highest quality information. Nor do we frequently have training in how to properly discern between deceptiveness or truthfulness.
At the same time, we can be forgiven for this oversight. Why? It is because our formal training does not include skill development of this kind. You may have received “training” from some firms claiming to teach lie detection. If so, read on to see why you yourselves may have been misled. What is more, even if we have a thorough due-diligence process we are constrained by the speed at which we can read the filings of companies we scrutinize. Quick fact: D.A.T.A. can assess documents 350x faster than people, and with 88.4% double-blind tested scientific accuracy.
The Importance of Evaluating Management Well
In a recent poll we conducted 11-18 October 2022 on LinkedIn in three different audiences, the following results were attained from 337 respondents answering the question:
Q: How important is an assessment of management in your investment process?
- Not important…3.86%
- Somewhat not important…1.48%
- Somewhat important…10.09%
- Important…85.16%
This result clearly indicates that an evaluation of management is important in the investment process. These results echoed similar results in a more formal study where the average importance assigned by investment pros to deception detection was 82.86%.
You would think then that major educational institutions such as CFA Institute or major business schools, such as Harvard would provide coverage of the cutting-edge techniques that are scientifically proven to uncover deceptiveness, yes? No.
Investment Process Training Review
A perusal of CFA Institute’s 3-year curriculum for the CFA charter shows that it provides broad coverage of ‘quantitative methods,’ ‘financial statement analysis,’ ‘valuation,’ and ‘portfolio management.’ At Harvard Business School it is a similar story if you check out the HBS course catalog, it shows similar coverage of the above skills.
When it comes to providing CFA charter candidates skills in how to interview management, CFA Institute offers nothing. At HBS it is slightly better. Looking at the descriptions of the following courses it can be implied (but not known for sure) that MBA students are learning to evaluate people.
- Leadership and Organizational Behavior
- Leadership and Corporate Accountability
- Managing Human Capital
However, nothing in the above courses is specific to how to evaluate management character, trustworthiness, or skills on how to conduct research via conversational due-diligence.
Body Language Cues Do Not Work
You may retort that you have received training from some of the firms out there teaching “lie detection.” But don’t get me started talking about some of the promulgators of “lie detection” techniques where their staff is made up of former intelligence officers or members of law-enforcement where the emphasis is on identifying “tells” as revealed through visual and aural cues. In short, body language does not work for surfacing deception.
Their techniques have been disproven repeatedly and rigorously by scientific research. Even if their techniques did work, members of their community have also been repeatedly and rigorously examined for their skill by scientific research, but law enforcement is actually worse at detecting deception than the general population.
Investment Pros’ Deception Detection Accuracy
You may think that you have a natural talent for deception detection. In fact, our polling data suggests that you do believe this. During the week 30 August 2022 thru 6 September 2022, 123 investment pros responded to the following question:
Q: My deception detection accuracy at work is…?
- > 87.5%…22.76%
- 75% to 87.5%…20.33%
- 62.5% to 75%…17.89%
- 50% to 62.5%…39.84%
Adjusting for the skew caused by the answers being in ranges, the overall answer given by investments pros is that they are 66.31% accurate. Several years back, we tested investment pros to measure their deception detection accuracy. Sadly, they were just 51.6% accurate at detecting deception, or roughly chance 50:50 skill.
In a previous study, we asked investment pros a similar question as on LinkedIn. In that formal study, the self-reported accuracy of finance pros was 68.2% at detecting deception.
Clearly there is a gap between the claimed accuracy of investment pros and their deception detection capabilities of around 68.2% and their actual accuracy of 51.6%; that gap is 31.26%. In other words, if you are a finance pro and reading this you are likely overconfident in your deception detection capabilities.
Another measurable gap is that 82.86% believe deception detection of management is important, but from our research we know the skill set is significantly below the level of importance assigned to it. This is true even if we trust investors that their accuracy is in the high 60% range. In this optimistic hypothetical, the gap is still in excess of 15%. The preceding information is evidence that the part of your investment process most in need of improvement is conducting due-diligence by interviewing people.
Scientific Evaluation of Management
There is hope for evaluating the trustworthiness of management. Deception And Truth Analysis uses natural language processing to look for the known behavioral differences between deceivers and truth-tellers in written communications. We are double-blind scientifically tested at 88.4% accuracy. We humbly offer that we can help you and your firm close the gaps between:
- Importance of deception detection = 82.86% and accuracy of 51.6%
- Belief in deception detection skill = 68.2% and accuracy of 51.6%
Conclusion
Investment management has a hidden contributor for its poor results. Namely, most investment pros believe that deception detection is extremely important. However, even their overconfident belief in their deception detection skills is far below the level of importance they assign to deception detection. More importantly, their actual accuracy at detecting deception is far worse than their overconfident evaluation of their skillset. These gaps are not surprising because investment professionals lack accurate, scientific training in evaluating management.
0 Comments