Global asset manager NN Investment Partners hired the firm Essentia Analytics to quantitively examine behavioral biases and better understand the firm’s strengths and weaknesses. This according to a recent article in Institutional Investor.
NN portfolio manager Robert Davis outlined the analysis in a case study: “Arguably, behavioral finance is central to value investing where implicitly investors believe the market is ‘wrong’ in core assumptions about a company, causing it to trade below intrinsic value. This would never happen in an efficient market!” He notes that value investors are prone to biases regarding expectations for mean reversion, overconfidence, and loss aversion, “to name a few.” He argues that there have been only four value and growth cycles since the 1970s and, in each case, the cycle turned by a catalyst that required changes to monetary or fiscal policy and for asset managers to reevaluate stock valuations.
The key, according to Davis, is that “all of the data is derived quantitatively with very little subjective perspective. If the numbers say aspects of a behavioral bias result in positive or negative alpha, there is little room for argument.”
According to the article, Essentia found that NN was holding on to both winning and losing stocks for too long and purchasing volatile stocks when their prices were already on the rise. Their analysis helped NN’s portfolio managers correct behavioral biases by sending “nudge” alerts about, for example, winning positions that may be approaching a zone of “alpha decay.”