In the hedge fund industry, as in sports, performance is everything.
So after several years of lackluster performance, the industry is increasingly turning to self-help programs, sometimes referred to as “mindware” products, to try to improve its game.
To cater to this demand, a whole new cottage industry has cropped up in which statisticians track performance data, and coaches and psychiatrists work to help hedge fund managers make smarter decisions by getting them to talk about their personal histories and biases. The thinking goes that if an athlete can use coaches, why not traders?
The idea is not new, but it has taken some time to gain traction. In the early 1990s, Steven A. Cohen, the founder of SAC Capital Advisors, hired Ari Kiev, a psychiatrist who had previously worked with athletes, to coach SAC’s traders.
Two decades on, aided by the growing popularity of literature on the behavioral science of decision making, the idea that self-awareness can lead to better decisions in business and finance is beginning to be accepted on Wall Street. Borrowing from books like Daniel Kahneman’s “Thinking, Fast and Slow,” trading coaches talk about the systemic, recurrent and predictable mistakes to which humans are prone.
“When you look at finance, we are besotted with analyzing the outcome,” said Simon Savage, who manages funds for the GLG Partners division of Man Group, one of the world’s biggest hedge funds. In sports like baseball, discovering the process that led to an outcome is as important as the outcome, Mr. Savage said, so it seems logical to apply this thinking to investing.
GLG Partners has devoted what it says are significant resources toward discovering why its traders are successful or not. Seven years ago, the company began to collect data to analyze its traders’ “hit rate,” meaning the percentage of successful trades.
This simple research provided crucial feedback for traders, Mr. Savage said, but it missed one crucial question: how GLG could help its traders avert mistakes in the future. So about 18 months ago it hired a trading coach to work with 30 of its employees in London to help find the answer.
“The most common measure of skill seems to be performance, but performance is not a measure of skill — it’s a function of skill and luck,” said Clare Flynn Levy, an entrepreneur and former fund manager. Her start-up firm, Essentia Analytics, uses software that allows hedge funds to keep files on individual traders and their track records.
If you cannot tell the difference between skill and luck, “how on earth are you supposed to tell someone how to do better?” Ms. Levy said.
Man Group uses Essentia software to help measure traders’ performance so they can look back and zero in on where they need work. Then, with a coach, they try to determine why they make certain mistakes.
Trading coaches focus on the same areas as athletes do — rest, patience, mental outlook, intuition and personal obstacles.
Denise Shull, a coach who wrote “Market Mind Games: A Radical Psychology of Investing, Trading and Risk,” began her career by studying neuroscience at the University of Chicago and later became a trader at the Chicago Mercantile Exchange. Now she coaches clients to discover the unconscious characteristics that influence the decisions they make.
“Our baggage affects how we perform,” Ms. Shull said. “If you become conscious of that, you can make a change.”
One of Ms. Shull’s recent clients runs the trading desk at a major overseas bank and sought help because he was frustrated that he could never bring himself to make bold trades. Together, they traced his lack of appetite for risk back to a conservative mother. Ms. Shull said that this revelation made her client feel more emboldened, at least initially, to make bigger bets.
Personal histories play into how we make decisions, and there are over 50 different kinds of behavioral biases that human beings generally are vulnerable to: hedge fund managers, unsurprisingly, tend to be vulnerable to similar biases.
The most common of these is a fear of losing, leading some managers to sell out of a stock or a position prematurely, said Rick Di Mascio, the chief executive at Inalytics, a company that provides software for hedge funds to log their traders’ information.
Mr. Di Mascio says he tells clients that selling early comes at a cost to their businesses.
In one case, Mr. Di Mascio said, this bias cost a hedge fund the equivalent of a third of the total performance of the fund each year, when compared with the fund’s earnings if managers sold their holdings at peak levels.
Hedge funds that have tried analysis and coaching say they help limit the tendency for managers to make predictable mistakes, but it does not eliminate those mistakes.
Many hedge funds have considered dabbling in psychology but will not talk about it publicly. In a world where ego reigns and managers are paid based on their convictions, admitting that one is wrong and learning from mistakes remains a difficult sell.
“There is probably somewhat of a stigma against performance coaching in finance,” said one retired hedge fund manager who still manages personal investments and agreed to speak only on condition of anonymity.
Nevertheless, firms like Man Group continue to forge ahead, probing into new areas of behavioral science.
Last summer, a group of traders at its GLG unit in London were hooked up to heart monitors to test their stress levels in certain situations.
Mr. Savage would like to pursue other biometrics, too. “We’re going down that path where there are so many things we could do.” Joking, he added, “Stopping short of cheek swabs, pinpricks and invasive testing, like for testosterone.”