"Super Investors"

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The Seven Deadly Sins in Investing​

James Emanuel

Behavioral biases shape decision-making, often impairing rational choices in fund management and investing generally. By dissecting the "seven sins" in the investment process, we understand how biases like overconfidence, anchoring, and groupthink undermine effective investment strategy. This post critiques these pitfalls with examples, exploring how they detract from long-term returns and proposing how recognizing these biases can refine your investing approach to achieve superior results.​

Sin 1, Pride​

Don’t Be Proud, Admit You Can’t See The Future​

Forecasting is integral in fund management, yet over-reliance on it is misguided. Fund managers’ overconfidence in predictions creates a perilous foundation for investment decisions, largely due to an inherent anchoring bias. ‘Anchoring’ occurs when investors latch onto seemingly relevant but ultimately unrelated data points, clouding judgment.

For instance, psychologists Englich, Mussweiler, and Strack conducted a study with criminal trial judges who were unknowingly influenced by random numbers when deciding on sentencing. Judges who were shown higher numbers issued harsher sentences, demonstrating how irrelevant anchors skewed their judgment. In fund management, similar anchoring happens when managers cling to forecasts without considering their actual predictive accuracy.

Forecasting for inflation, bond yields, and stock prices has shown poor accuracy. Economic forecasts, which tend to be backward-looking, often lag reality, as demonstrated by economist estimates of inflation rates based on previous trends rather than current data. The false security in prediction results from psychological overconfidence, as managers often rate themselves as more skilled than reality suggests. Studies reveal that 68% of equity analysts thought they were above average at forecasting earnings, while 75% of fund managers think they are above average at their jobs. Both of these are mathematically impossible given that the split of above and below average will be 50:50.
Lao Tzu, a poet who lived over 2,500 years ago, observed, “Those who have knowledge don’t predict. Those who predict don’t have knowledge”. This prophetic wisdom is born out in fact in the investing community with the worst performers generally being the most overconfident. Such individuals suffer a double curse of being unskilled and unaware of it.

This was evident among investors in energy companies prior to the 2014 oil price collapse. Leading up to 2014, oil prices had remained high for several years, and analysts confidently forecasted that global demand for oil would continue to rise. Investors bought heavily into oil and gas companies, assuming that high prices would sustain or even increase, providing stable returns for years to come.
Encouraged by these predictions, many investors overlooked warning signs such as the rapid growth in U.S. shale production and potential shifts in global energy consumption patterns. Large sums were invested in oil exploration and production, particularly in high-cost ventures that would only be profitable if oil prices stayed high. Analysts’ and investors’ pride in their forecasting led them to discount the possibility of a significant price drop.

In mid-2014, however, oil prices plummeted due to a supply glut and weakened global demand, catching investors off guard. Many energy stocks suffered steep losses, and numerous companies faced financial distress.

 

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The Seven Deadly Sins in Investing​

James Emanuel

​

Sin 2, Gluttony:​

Don’t Be Greedy By Consuming Too Much Data​

An excessive thirst for information pervades fund management, driven by the misconception that more knowledge enhances predictive accuracy. ‘The illusion of knowledge’ misleads managers into thinking that accumulating vast amounts of data will improve investment decisions. Psychological literature, however, suggests otherwise: beyond minimal information, added data inflates confidence more than it enhances decision quality.

An illustrative study compared confidence levels in laypeople and professional investors tasked with predicting stock performance based on familiar blue-chip names. Laypeople showed 59% confidence in their picks, while professionals were 65% confident, yet both performed worse than random guessing. This suggests that rather than boosting decision quality, more information often bolsters overconfidence, leading to poor decision-making.

An example of this pitfall in investment is managers’ reliance on endless earnings projections and cash flow analyses, revealing a bias toward overemphasis on speculative growth information. This illusion of knowledge, or "gluttony" to consume too much often unhelpful data, distracts from actionable insights, leading to poorer outcomes.

This was seen in the 2007-2008 global financial crisis, where fund managers, analysts, and financial institutions sought an overwhelming amount of data about mortgage-backed securities (MBS) and collateralized debt obligations (CDOs), believing that more information would reduce risk. Financial institutions amassed vast datasets, complex models, and analyses on these mortgage products, convinced that they fully understood the assets they were buying and trading.

In practice, however, this glut of information created a false sense of security. Analysts had data on default rates, loan-to-value ratios, geographic distributions, and other granular metrics on underlying mortgages. However, they often ignored critical indicators, like the loosening of lending standards and increasing borrower risk, focusing instead on overly optimistic models of rising housing prices. This surplus of data gave investors the illusion that they could precisely predict risk, leading to reckless over-investment in MBS and CDOs.

When the housing market collapsed, it became clear that the perceived knowledge had done little to prevent massive losses. Instead, the illusion of knowledge, through gluttony for data, contributed to one of the largest financial downturns in history.

 

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The Seven Deadly Sins in Investing​

James Emanuel

​

Sin 3, Lust:​

Don’t Allow Yourself To Be Seduced​

Managers frequently insist on meeting with company executives, aiming for deeper insights. However, these meetings often provide little more than superficial affirmations of pre-existing beliefs. Driven by ‘confirmation bias’, managers seek information that aligns with their expectations, rather than challenging assumptions.

The text recounts several psychological hurdles that render meetings with management less effective. One hurdle is ‘authority bias’, the tendency to be overly influenced by authoritative figures. Company leaders can sway managers’ opinions, leading to overconfidence in the company's prospects, even when the evidence does not support it. Another hurdle is ‘deception bias’; studies show that people are generally poor at detecting lies, meaning that managers may take optimistic forecasts at face value.

Additionally, a study showed that meeting companies did not significantly affect investment accuracy but often reinforced false beliefs. Rather than providing clear insights, these meetings often become "mutual love-ins," where managers leave with a reinforced commitment to a company’s narrative, leading to biased investment choices based on charisma or perceived authority, not hard evidence.

A notable instance occurred in the Enron scandal in the early 2000s. Enron's executives cultivated strong relationships with analysts and fund managers, frequently hosting them in elaborate meetings and events where they presented a highly optimistic picture of the company's future. These interactions created an environment where analysts, influenced by the charisma and authority of Enron's leadership, became reluctant to critically question the company's complex financial structures and opaque accounting practices. Enron’s CEO and other executives were particularly skilled at persuading these financial professionals, emphasizing growth narratives and future profitability that ultimately masked severe financial problems.

Because of these interactions, many analysts and fund managers recommended Enron’s stock, largely based on the persuasive insights and access provided by Enron’s leadership rather than on rigorous analysis of the company's actual financial health. When the truth came to light, Enron's stock collapsed, the company declared bankruptcy, and investors faced enormous losses.

 

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The Seven Deadly Sins in Investing​

James Emanuel

Sin 4, Envy:​

Don’t Allow Fear Of Missing Out To Cloud Your Judgement​

Investment often mirrors a contest of ego where fund managers believe they can consistently outperform the competition. However, the drive to “outsmart” the market is fueled by overconfidence, an enduring behavioral bias. This concept is likened to Keynes' beauty contest analogy, where contestants choose faces they think others will find attractive rather than their own preferences. It becomes a question of second order thinking – not selecting the answer that you believe to be correct, but the answer that you estimate others will believe to be correct. Similarly, managers choose stocks they believe will be popular, perpetuating trends rather than genuine value discovery.

This highlights the impossibility of consistently predicting market behavior. Overconfidence bias leads managers to believe they can predict market timing, creating speculative bubbles as managers buy or sell based on anticipated trends rather than fundamental value. Thus, aiming to outwit others ultimately hampers sustainable investment growth.

This was evident in the behavior of hedge fund managers during the dot-com bubble of the late 1990s. Many fund managers were driven by the desire to outperform competitors who were making substantial gains in rapidly rising tech stocks. As a result, they abandoned their traditional value-investing principles to chase the massive short-term returns that internet and tech stocks seemed to promise.

In particular, managers faced pressure to keep up with peers whose funds were outperforming by investing heavily in high-flying, speculative stocks like Pets.com and Webvan, despite the fact that many of these companies had minimal earnings and questionable business models. Fund managers justified these investments by believing they could "get in and out" of the market at just the right moments, capitalizing on the speculative surge while avoiding the inevitable downturn.

However, when the bubble burst in early 2000, many of these managers were caught holding large positions in overvalued tech stocks, leading to catastrophic losses. This episode illustrates the dangers of envy in fund management: the belief that one can consistently beat the market and outwit peers often leads to high-risk decisions that compromise long-term investment success.

 

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The Seven Deadly Sins in Investing​

James Emanuel

Sin 5, Avarice:​

Don’t Overtrade Trying To Chase Quick Wins​

Fund managers’ tendency to prioritize short-term gains leads to frequent trading, conflating speculation with investment. The average stock holding period on the New York Stock Exchange is approximately 11 months, underscoring an industry-wide fixation on immediate returns over intrinsic value. ‘Overtrading’ results in heightened transaction costs and often undercuts long-term portfolio performance.

Behavioral research shows that ‘attention deficit in market noise’, the rapid reaction to minor price fluctuations, fuels overtrading. A portfolio’s performance over 11 months is primarily driven by price movements, not fundamentals. Managers, drawn to instant profits, speculate rather than invest, mistaking transitory price swings for indicators of real value. As demonstrated, the lure of short-term gains reflects an "avarice" for rapid results, leading to an incessant cycle of buying and selling that undermines the stability of portfolio returns.

This was seen in the behavior of many day traders during the GameStop (GME) stock frenzy of early 2021. Driven by short-term profit motives, thousands of retail investors engaged in frequent, high-volume trading of GameStop shares, inflating its price dramatically over a matter of days.

Social media platforms like Reddit played a central role, where users encouraged each other to buy and hold the stock, pushing its value to unprecedented levels despite no changes in the company’s underlying fundamentals.

Many investors who participated in the frenzy were focused on making quick profits rather than holding the stock for its intrinsic value. There was a palpable fear of missing out (FOMO). As a result, trading volume soared, and the stock price swung wildly within short periods, with gains or losses of over 50% in a single day. This short-term speculation drew in more traders looking for fast returns, leading to extreme price volatility and the stock price was completely dislocated from the economic fundamentals of the business.

Rather than investing with a focus on long-term value, short time horizons and speculation can lead to risky and often unprofitable behavior in the stock market. When the excitement eventually waned, GameStop's stock price quickly declined, leaving many short-term traders with significant losses.

 

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The Seven Deadly Sins in Investing​

James Emanuel

​

Sin 6, Sloth:​

Don’t Be Lazy, Don’t Buy Other People’s Narrative​

Humans became dominant because they learned to cooperate in large numbers, thanks to a newfound aptitude for telling stories. That aptitude, which enabled our ancestors to believe in completely imaginary things, lies at the root of our religions but is also prevalent in the world of investing.

Narratives have a powerful sway over human psychology, making investors vulnerable to compelling stories rather than hard data. This ‘reliance on stories’ leads investors to make decisions based on promises of growth or catchy market trends rather than robust data analysis. Humans have a cognitive tendency to believe stories to comprehend new information, often uncritically.

Investors latch onto stock narratives without scrutinizing their plausibility. Growth stocks often receive unwarranted enthusiasm based on potential rather than performance. This bias drives irrational exuberance around companies with compelling growth stories, disregarding financial fundamentals.

A classic case was the rise of WeWork in the years leading up to its failed IPO in 2019. WeWork marketed itself as a disruptive tech company transforming the workplace rather than as a traditional real estate firm. This story, which portrayed WeWork as an innovative, high-growth "tech unicorn," was widely circulated and attracted high-profile investments from companies like SoftBank, even though its financials showed escalating losses and unsustainable growth. The company's story of "reinventing workspaces" overshadowed warning signs, such as high operating costs, questionable management decisions, and a lack of profitability. Ultimately, when it came time for the IPO, closer examination revealed these issues, leading to a massive devaluation and postponement of the public offering.

 

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The Seven Deadly Sins in Investing​

James Emanuel

Sin 7, Wrath:​

Don’t Be Afraid To Be Contrarian​

The final "sin" is the inclination toward group decision-making, driven by the assumption that multiple opinions yield better outcomes. However, groupthink often amplifies biases rather than providing balance. ‘Conformity bias’ leads to suppressed dissent, as individuals in groups are more likely to agree with prevailing views to avoid conflict.

Social psychologists have shown that groups generally arrive at more confident yet less accurate decisions than individuals. Rather than eliminating individual biases, groups can magnify them. Investment committees often decide by consensus, but this discourages rigorous debate. Members favoring differing opinions are typically marginalized, pushing groups toward premature agreement. As the text highlights, fund managers benefit more from a clear individual framework rather than group dynamics, as group decisions typically lack critical interrogation of market assumptions.

This "herd mentality" was especially evident just prior to the 2008 financial crisis, when investment groups across major firms continued to double down on mortgage-backed securities, even as warning signs emerged. Despite conflicting information from individual analysts who foresaw potential risks, collective decision-making led most firms to persist in the belief that housing prices would continue to rise. The dominant view in these groups led to overconfidence in mortgage investments, largely because dissenting voices were either ignored or pressured to conform. This lack of critical debate among group members, coupled with the psychological safety of consensus, resulted in catastrophic losses when the housing bubble burst.

In times of market uncertainty, investment committees and fund management teams often fall into groupthink, amplifying shared biases rather than mitigating them.

Conclusion​

These "seven sins" highlight the psychological pitfalls that compromise rational investment. Recognizing these patterns can encourage a more disciplined, evidence-based approach. By addressing these cognitive biases, you can refine your investment processes, which ought to lead to more satisfactory long-term results.


James Emanuel

 

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The Seven Deadly Sins in Investing​

James Emanuel

Behavioral biases shape decision-making, often impairing rational choices in fund management and investing generally. By dissecting the "seven sins" in the investment process, we understand how biases like overconfidence, anchoring, and groupthink undermine effective investment strategy. This post critiques these pitfalls with examples, exploring how they detract from long-term returns and proposing how recognizing these biases can refine your investing approach to achieve superior results.​

Sin 1, Pride​

Don’t Be Proud, Admit You Can’t See The Future​

Forecasting is integral in fund management, yet over-reliance on it is misguided. Fund managers’ overconfidence in predictions creates a perilous foundation for investment decisions, largely due to an inherent anchoring bias. ‘Anchoring’ occurs when investors latch onto seemingly relevant but ultimately unrelated data points, clouding judgment.

For instance, psychologists Englich, Mussweiler, and Strack conducted a study with criminal trial judges who were unknowingly influenced by random numbers when deciding on sentencing. Judges who were shown higher numbers issued harsher sentences, demonstrating how irrelevant anchors skewed their judgment. In fund management, similar anchoring happens when managers cling to forecasts without considering their actual predictive accuracy.

Forecasting for inflation, bond yields, and stock prices has shown poor accuracy. Economic forecasts, which tend to be backward-looking, often lag reality, as demonstrated by economist estimates of inflation rates based on previous trends rather than current data. The false security in prediction results from psychological overconfidence, as managers often rate themselves as more skilled than reality suggests. Studies reveal that 68% of equity analysts thought they were above average at forecasting earnings, while 75% of fund managers think they are above average at their jobs. Both of these are mathematically impossible given that the split of above and below average will be 50:50.
Lao Tzu, a poet who lived over 2,500 years ago, observed, “Those who have knowledge don’t predict. Those who predict don’t have knowledge”. This prophetic wisdom is born out in fact in the investing community with the worst performers generally being the most overconfident. Such individuals suffer a double curse of being unskilled and unaware of it.

This was evident among investors in energy companies prior to the 2014 oil price collapse. Leading up to 2014, oil prices had remained high for several years, and analysts confidently forecasted that global demand for oil would continue to rise. Investors bought heavily into oil and gas companies, assuming that high prices would sustain or even increase, providing stable returns for years to come.
Encouraged by these predictions, many investors overlooked warning signs such as the rapid growth in U.S. shale production and potential shifts in global energy consumption patterns. Large sums were invested in oil exploration and production, particularly in high-cost ventures that would only be profitable if oil prices stayed high. Analysts’ and investors’ pride in their forecasting led them to discount the possibility of a significant price drop.

In mid-2014, however, oil prices plummeted due to a supply glut and weakened global demand, catching investors off guard. Many energy stocks suffered steep losses, and numerous companies faced financial distress.

but i can ...

not very clearly , and not all the time

but sometimes the dots line up ( and a lot of time luck saves me from a major disaster )

so when possible i have at least one back-up plan .. like March 2020 i had some liquidity prepared already ( i thought there was going to be a credit freeze/crunch ) and was expecting a 'W' or 'U' recovery ( not the 'K' recovery that we got )

but in March/April 2020 price targets were being hit ( and sometimes lower ) ... so i bought carefully and selectively ( and sometimes multiple times as share prices crashed through target price after target price similar to what i did with MQG in 2011 )