Attribution Bias – In psychology, an attribution bias or attributional bias is a cognitive bias that refers to the systematic errors made when people evaluate or try to find reasons for their own and other’s behaviours.

It has been said that those who do not learn from history are doomed to repeat it.

COVID19 will leave its mark on history books and amazing lessons can be extracted for financial literacy purposes. The topic of attribution bias has been mentioned in my other posts before but I have never found the situational appropriateness to discuss it. They are extremely subtle and subliminal, concepts of importance with little literature on them except through observations from life experiences and educational texts of higher learning.

In GFC2008, there was the example of wealth managers who credit their excellent portfolio allocations for the returns generated but blame the markets other than themselves when losses appeared. Fast forward till today with COVID19, the champions of leveraged yield securities and the FIRE movement have had a good run but now scramble to attribute what has happened.

When markets were tanking, social media communities on financial literacy were buzzing about war chests deployment and bottom fishing with analytical guesses on market bottom. A lot of debate went on between timing the bottom and DCA. As at this moment of writing, champions of buying the dip have lowered their voices and overtaken by champions of dollar cost averaging (DCA). Oh how easily forgotten are those who have been doing DCA for years and expect to exit this year (Not optimal) for their financial objectives.

So here are statements of the truth to marry them all.

1. Hero or zero is just a matter of outcome.
2. Forward probabilities are not stable/static. (Fooled by Randomness is a book by the way)
3. The market can accommodate all investment views, not all will be correct all the time.

Statement 1: Catch the falling knife well, bravo everyone claps. Hero. Catch it wrong, one big fat zero. A valid approach was applied but the outcome is separate matter. Who decides the outcome – Mr Market. And Mr Market does not care how much money you bring to the table. In fact, the market can stay irrational longer than one can stay solvent, quoting British Economist John Maynard Keynes.

Dated article snippet 06April2020. Genting Singapore Revenue Impact Anticipated.

Investing.com chart on Genting Singapore from 06April2020 till end of the week. Price moved up instead.

Statement 2: Over reliance on back testing is one pitfall which has suckered many people into convictions that eventually nailed them. Factor mining mistake, given the enormous data and computing power available, if you generate and test enough strategies you’ll eventually find one that works very well in a back test. But wait, the backtested results could be a function of spurious correlation between input variables as they may not have a fundamentally sound basis to persist. In fact, if you torture the data long enough, it will confess, quoting Ronald H.Coase.

Market Depth Genting SP at close 09April2020. When to use Market Order and When to use Limit Order, do you think backtested results have reliability? It depends on investment trade view more than anything, correct?

Statement 3: Make your own play. Mr Market is allowed to be irrational (extended periods even) but you mustn’t. We all love plug and play, fire and forget, pop a pill and silver bullets. But like life itself, markets are dynamic. You really have to ask yourself, why would this investment approach apply or continue to apply for years to come? If not applicable, what then?

As an example, think about the tons and tons of technical indicators out there. Aren’t they proof that each had decent efficacy at different points in time/history? It will be great if someone records the varying efficacy rates of just one indicator over periods of time.

So what is Isaac championing? The Adaptive Market Hypothesis approach.

This is much more realistic and accepts that the only constant in life is change. Adaptability is key. It acknowledges that valid concepts can be misapplied to detrimental outcomes. As an example, trending methods applied on non trending market state is asking for trouble. Likewise, contrarian methods applied on trending market state will be disastrous.

Tune up your sensitivity for attribution bias when sitting down with your adviser representative. It can save you from future irresponsibilities arising from market changes in time to come.