London, United Kingdom
The strategy seeks to generate returns by identifying instances where asset prices have moved away from fundamental value as a result of human emotion. This is based on a belief that these instances have a high likelihood of correcting over the medium-term due to the short-term nature of behavioral influences. Traditional efficient markets theories hold that the prices of assets are driven solely by news flow on the prospects for companies and the broader economy. However, we believe that observable price moves are often inconsistent with what one would reasonably expect. Prices may fall even though news has been positive, rise in spite of bad news, be either muted or extreme, and even move significantly when there is no news at all. It is difficult to explain such volatility from an efficient markets perspective. In the real world, we believe that human behavior and emotion, combined with differentials in investors’ time horizons, can create inconsistencies in the pricing of risk.
An investor can become inappropriately enthusiastic or fearful about being exposed to risk, and as a result ignore their fundamental beliefs as to what assets are actually worth. This means that the same investor, when presented with the same asset, may be willing to pay a different price from one month, or even one day, to the next. As a result, human emotion can play a critical role in asset price determination. Through their feedback effect on investor perceptions, moves in prices themselves, whether up or down, can at times be the primary drivers of investor decisions, inducing further price misalignment. The strategy’s approach seeks to take advantage of these emotionally driven misalignments.
The strategy does not rely on economic forecasting. The portfolio managers believe that such an approach is unsustainable for a number of reasons, but in no small part because of the very unpredictability of human behavior mentioned above. Assessing the true value of an asset involves making assumptions regarding wider issues, such as inflation and growth prospects. When such economic fundamentals shift materially, then prices which appear misaligned may not actually be so.
The manager’s ability to examine the economic environment and make judgements as to the validity of valuation signals is a significant aspect of the investment process. The strategy therefore employs a unique mixture of both objective and subjective assessments as part of the idea generation process, exploiting what the Manager believes to be the best qualities of each to take advantage of human behavioral biases without falling prey to them itself. At any time the portfolio will typically contain a combination of medium-term value-based trades (trend following), and shorter-term episodic trades (contrarian).
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