Sanlam PI: Beware the siren call of superfluous data

Duncombe-Sam-Sanlam-2014

Many of the most prominent authors of financial literature lament investors’ addiction to information. At first glance this seems a laudable obsession; after all, when investing we feel a sense of obligation to be fully informed of all matters relevant to the decision at hand. But the sirens of modern finance can lead even the best intentioned investor astray.

Studies have shown that superfluous information unduly increases the confidence that we have in our own forecasts, without, of course, providing any improvement to our decision making capacity. This is not just true for investment, but has been demonstrated to hold true more widely for forecasting activities.

Some studies have even demonstrated that additional information can decrease the accuracy of our forecasts while increasing our confidence. Clearly, overconfidence is a dangerous state for an investor. With 24 hour business news, social media and dedicated data systems, we, as investors, are at a higher risk of falling victim to the volume of data and to our own imperfections than ever before.

The problem becomes more worrying when we note that much of the information that we crave is merely telling us what others are thinking; consensus forecasts for economic and company data are devotedly treated as centre points around which investors dutifully position themselves. The effects of group pressure on human judgement are well understood: we are prone to abandon our own conviction and comply with the opinions voiced loudly by our peers. It is not just the abundance of financial information, but also the nature of this information that risks undermining our decision-making.

As long-term investors, we must block out the chatter that is thrown up by every geopolitical event and by every headline-grabbing corporate announcement. We must isolate ourselves from the live news headlines on Ukraine, or on the conflicts in the Middle East, or on speculation of government policy in the US. All too often this is just noise: we must, however, also understand that this noise can move markets in the short term, and that we must retain conviction in the robustness of our process when those around us follow the Sirens’ calls.

In Greek mythology, the fate of the seafarers who listened to the Sirens was to be lured to destruction on the rocks surrounding the island where these dangerous creatures dwelled. For this reason, a key tenet of our investment process at SPI is to build on the foundation of fundamental analysis, avoiding the chatter of markets and steering clear of the beguiling music of lazy thinking.

Sam Duncombe is managed fund analyst at Sanlam Private Investors