Skiing in Avalanche Terrain Is a Lesson in Risk Management

Cognitive biases can wreak havoc on decision making. That’s why the Harding Loevner investment process is structured to help avoid errors in thinking that can lead investors to make irrational decisions. By identifying a strict set of criteria for the companies we hold and the method by which we track and debate these requisite characteristics, there’s less room for human behavioral flaws to influence our actions.

Backcountry skiers—who routinely navigate avalanche-prone terrain—seek to avoid danger in much the same way, says Patrick Todd, CFA, a portfolio manager and analyst at Harding Loevner. For example, every trip to the backcountry involves scrutinizing the snow conditions beforehand and making a pre-commitment that outlines the actions he and his group will take should the conditions differ once they ascend the mountain. Sometimes, the best decision is to turn back despite the time, effort, and money that already went into the trip. When skiers wrestle with this decision, it’s the sunk-cost fallacy at play, one of the many cognitive biases that can rear its ugly head in backcountry skiing—and investing.

In the video above, Patrick discusses more of the parallels between the risks in investing and backcountry skiing and how a thoughtful process can mitigate both.

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Experience in a “Wicked” World

We often hear about the value of experience in the investment business. But what, really, is that value? Implicit in the idea that experience is valuable is a belief that experience necessarily leads to expertise. (I’m using psychology professor Gregory Northcraft’s definition of being a expert here—experts have superior predictive models that work.)

Analyzing Industry Structure through Porter’s Five Forces Model

As bottom-up investors, we aim to invest in high-quality growth businesses at reasonable prices to provide superior risk-adjusted returns over the long term. To determine what constitutes a high-quality growth business, we research a company’s management, financial strength, growth prospects, and we closely examine the industry in which it operates to determine the company’s competitive advantage.

It’s as important to examine a company’s industry as it is to examine the fundamentals of a company. An analysis of industry structure can inform how well-positioned a company is relative to competitors, as well as the profit potential for the company.

Our analysis is guided by Harvard University professor Michael Porter’s Five Forces, which were first introduced in a 1979 issue of Harvard Business Review and later detailed in his 1980 book, Competitive Strategy: Techniques for Analyzing Industries and Competitors.

In this six-part video series, we examine each Porter Force and discuss how we use them to analyze industries. Watch the series introduction below and click through to see how we leverage Michael Porter’s Five Forces framework for industry analysis.

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4 Sources of Edge for Active Managers

People are deeply flawed when it comes to making investment decisions. It is vital for active investment managers to be aware of their own behavioral defects as humans and counter these shortcomings with process. Good active managers must be able to identify their “sources of edge,” the characteristics that enable them to generate sustainable alpha.