Managing Equity Portfolios: A Behavioral Approach to Improving Skills and Investment Processes by Michael A. Ervolini – description of the book followed by a small excerpt
Managing Equity Portfolios – Description
Portfolio management is a tough business. Each day, managers face the challenges of an ever-changing and unforgiving market, where strategies and processes that worked yesterday may not work today, or tomorrow. The usual advice for improving portfolio performance — refining your strategy, staying within your style, doing better research, trading more efficiently — is important, but doesn’t seem to affect outcomes sufficiently. This book, by an experienced advisor to institutional money managers, goes beyond conventional thinking to offer a new analytic framework that enables investors to improve their performance confidently, deliberately, and simply, by applying the principles of behavioral finance.
Edwards Deming observed that you can’t improve what you don’t measure. Active portfolio management lacks methods for measuring key inputs to management success like skills, process, and behavioral tendencies. Michael Ervolini offers a conceptually straightforward and well-tested framework that does just that, with evidence of how it helps managers enhance self-awareness and become better investors. In a series of short, accessible chapters, Ervolini investigates a range of topics from psychology and neuroscience, describing their relevance to the challenges of portfolio management. Finally, Ervolini offers seven ideas for improving. These range from maintaining an investment diary to performing rudimentary calculations that quantify basic skills; each idea, or “project,” helps managers gain a deeper understanding of their strengths and shortcomings and how to use this knowledge to improve investment performance.
Managing Equity Portfolios -Review
The Disciplined Trader meets Moneyball. Managing Equity Portfolios: A Behavioral Approach to Improving Skills and Investment Processes is a worthwhile read for any portfolio manager, analyst, or trader focused on continual improvement and even greater success.
Charlie Munger: Invert And Use “Disconfirming Evidence”
(Warren Touwen, Core Product, Bloomberg)
For fund managers seeking to improve their investing skills there are many publications offering tantalizing but fragmented paths for progress. In Managing Equity Portfolios: A Behavioral Approach to Improving Skills and Investment Processes Michael Ervolini brings together topics such as fast and slow thinking, checklists, and self-awareness to construct coherent and pragmatic solutions. Using the principles of the scientific method he shows how a successful investment process can evolve through time, improving the consistency of decision making and keeping investing skills relevant in an ever-changing world.
(Simon Savage, Asset Manager, GLG Partners)
Michael Ervolini is a clever man in touch with reality. Recognizing that portfolio management is a tough, challenging business full of conflicts, he gets it that rationality is easy to talk about but difficult to implement. It requires recognition of deep uncertainty and the human resource that is emotion. Since passive investing puts you at the mercy of the market, active portfolio management has to be made to work. It can be, Ervolini says, if there is proper feedback. It requires a willingness to be curious about what we do and to create ways to learn from experience. This is what he does in this book. Read it!
(David Tuckett, Director, Centre for the Study of Decision-Making Uncertainty, University College, London)
After years of deep, questioning research into the biases and beliefs that can undermine the ‘normal’ behavior of equity portfolio managers, Michael Ervolini skillfully tells us how to improve our choices. He does this by providing practical ideas for learning how to do more of what we already do well and how to identify and fix what is not working. No asset class and no asset manager are immune from human fallibility when it comes to portfolio decisions, and with the help of this book you can learn how to showcase your skills while modifying behavioral tendencies.
(Arnold S. Wood, President and Chief Executive Officer, Martingale Asset Management)
Ervolini’s analytical work will…appeal to professional portfolio managers looking for performance help and readers who aspire to such a career. Both groups will find his generally jargon-free insights instructive.
About the Author
Michael A. Ervolini is CEO of Cabot Research, a global software company that provides innovative analytics to money managers to help them improve portfolio performance.
Sourcing Better Ideas
The key to improving is the ability to measure individual skills. Yet this type of measurement has never been done for portfolio managers and is long overdue.
The first level of measurement is how much alpha is generated on average from the three basic skills of professional investing, defined below.
» Buying is the skill of name selection. It answers the question: How good are you at identifying stocks that go on to outperform?
» Selling is the skill of unwinding positions. It answers the question: How good are you at maintaining a dominant proportion of holdings that are currently outperforming, versus hanging on to losers or selling winners too early or too late?
» Sizing is the skill of building new positions and managing trims and adds. It answers the question: How good are you at aligning position weight with outperformance? Without fact-based answers to these basic questions, efforts at improving have
about the same chance as tossing darts wearing a blindfold. You might try like heck, but your skill development is unlikely to dazzle or feel satisfying.
The industry’s lack of meaningful skill measures may be fostered unintentionally by unconscious drives. The desire to improve can easily be thwarted by deeper, less apparent needs. Here are three behavioral tendencies to watch out for as you formulate and implement your improvement plan.
» Status quo bias. Change may make sense, but it is also scary and requires hard work. How many New Year’s resolutions are all but forgotten by March 1? Making small refinements and coupling them with measureable feedback is how top performers stay committed to their change goals.
» Self-attribution. “Success has many fathers while failure is an orphan,” says Confucius. The brain is adept at instilling the belief that positive outcomes are the result of your genius while unfavorable outcomes are the result of factors beyond
your control. Owning both your individual shortcomings as well as your strengths is essential to becoming a top performer.
» Premature dismissal. If you’ve ever traveled with someone reluctant to ask directions – especially before GPS – then you know the havoc that closed-mindedness can entail. Heuristics that guide investing are often buried deep in the unconscious and form important emotional protection.
Few professions are subject to the level of scrutiny and measurement applied to portfolio management. Yet little is really
known about investment skill – what it is, who has it, and how to get more. Other performance-driven professions make
clear that the only way to improve skills is deliberately. This means really knowing your current strengths and shortcomings at a granular level, setting out to eliminate one weakness at a time, and receiving regular feedback on how well you are implementing your change for the better.
The industry’s preoccupation with short-term performance results has not served capital sources or managers well. It’s time for a fresh look at what everyone proclaims is of paramount importance: skill. Perhaps this refocusing can help managers to improve while also providing capital sources a greater level of knowledge about those they hire. Then we’ll be able to distinguish the real stars from the asterisks.