Confirmation Bias

As background, I've been learning over the past year or two about behavioral biases that impact my perceptions, observations, and thinking about things.  The contexts apply widely, although the specific application is to try to be aware of biases in my thinking toward investment.

I wanted to talk a bit about confirmation bias after having some insight as to its usefulness today.

Confirmation bias is simply our tendency to see what we expect to see, interpret data in a way that confirms our preconceived model of the world.  The corollary is that we tend to discard/discount data or observations that don't fit what we expect to see.  Obviously in investing this can be dangerous - it means we're likely to interpret information about the market or an investment in a way that fits our preconceived ideas about that investment.  A bullish investor will tend to look for and "see" data to support his bullish thesis, and a bearish investor will tend to look for and "see" data to support a bearish thesis.


I find confirmation bias a difficult tendency to overcome.  Here's an online test that gives an example:

In the above, I read alot into test shown above - and was largely seeing what I was expecting to see - rather than seeing what was really there.  I can't help having a tendency to see things that I expect to see.

Now, to bring this around to today - my question is why is confirmation bias such a strong tendency?  Well, my answer is that I think confirmation bias is highly useful in many circumstances, and I'll describe a situation from today.

I've been doing some work under my house, putting in some supports underneath a shower pan.  Now my crawlspace is tight, and I am a big guy, and I liken it somewhat to going through birth everytime I go under the house and try to squeeze myself back out.  Squeezing in the tiny door, squeezing under flexible vent tubes, squeezing under plumbing pipes, etc.  The basic idea is that it is very tight down there, not alot of room to move or even look around.  Plus, there's not a lot of light, so I'm somewhat sensory deprived.

So I squeeze myself in under the shower, twist onto my back and am looking up at the shower pan.  In a bag I've drug bunch of tools and supplies in there with me.  tape measure, pencil, paper, gloves, maybe a few other things .  So I'm on my back looking up at the shower pan, concrete blocks pinning me in pretty tightly on both sides and the drain pipe kindof pinning me from the top.  One of my little Harbor Freight LED lights starts to flicker on and off (this is the light I'm referring to - I like it) so I'm thinking I better get my backup flashlight handy.  (I later took an extension cord and lamp down there, but initially I was just using a small battery powered light to see what was going on.)  I'm really not able to move my head enough to see what I'm looking for in the bag that I brought along, so I'm basically going by feel at this point.

For whatever reason, as I am reaching in for my little flashlight and feeling around and having difficulty finding it, I started thinking about confirmation bias and how useful it can be in a situation like that.  I kid you not, I was laying there under the house in the dark thinking about the usefulness of confirmation bias.  I knew I was looking for a small tubular metal LED flashlight, so I blindly reached down toward the bag (it's down near my knees) and started feeling for things.  I wasn't concerned about taking in other information about the worn leather texture of my gloves, or the ridges on my screwdriver, or a wrinkled up piece of paper, or the handles on the bag that kept getting in my way.  I was just digging around in there with single purpose of finding that other flashlight in case my other light went out - because I really didn't want to try to squeeze out of there in the dark (although that would've been a good story).  In this case, I was looking solely for information that confirmed that I had found the flashlight that I was looking for.  I ignored everything else.  Pure confirmation bias.  And I think it can be a useful bias in many of life's situations.

So why are we wired for confirmation bias?  I think it's because it's useful in many situations.  It reduces the complexity of a problem considerably and helps us focus on what we're looking for.   Now clearly, where this gets us into trouble is when this bias causes us to miss important details, or to see things that aren't there.  My screwdriver sortof felt like the flashlight, so for a moment I thought it was the flashlight.  Similarly, if I would've reached down and grabbed a possum by the tail it probably would've taken me a moment to figure out what was going on because I wasn't in a mental state to digest that bit of information.

Let me turn this into a specific line of thought on investments.  I have an overweight position in several energy stocks currently, and I expect the price of oil to recover - but it is taking longer than I expected.  So naturally, I try to realize I tend to view the world through the lens of an expectation of oil price recovery.  I look for stories that tend to validate this type of thinking - indicating US crude production is dropping, rig counts are declining, that international demand might pick up if global economies start growing more, that budgets of many oil producing countries are strapped so OPEC has incentives to increase prices, that instability in various regions could produce supply disruptions, price is below marginal cost of production, etc.   There are so many reasons for me to think that oil prices will recover.

But I also try to realize that I tend to discount or downplay the reasons that oil prices might have a more protracted downturn, because that doesn't fit my prior expectations of a price recovery.  Maybe the fracking technology is so good now that costs are fundamentally lower perpetually.  (While US fracking is a small part of the global production, it is a large part of the recent growth, so on the margin the boom in US fracking is impacting global supplies disproportionately.)  Maybe excess supply will be persistent.  Maybe this is the mother of all market share wars, and Saudi Arabia is trying to run US fracking capacity out of business?  There are lots of reasons that the price of oil could stay low for a longer time than I expect.

So in the end, recognition of confirmation bias has me tempering my bets in energy.  I am overweight the sector, but I easily could've been more if I wouldn't have thought in terms of probabilities like Howard Marks discusses.   As he explains, more things can happen than will happen, and we have to position ourselves appropriately.  This goes somewhat against the Buffett/Munger principle of making big concentrated bets, but then again, I'm not a Buffett or a Munger.  (I'm no Howard Marks either, but you know what I'm saying).

By the way, to guard against confirmation bias, Charlie Munger advises to invert the question - and ask what kind of information should I be looking for if my thesis is wrong.  So Munger's question would likely be more along the lines of "What type of evidence should I be looking for to confirm that the price of oil is going to stay depressed for an extended period?"   This approach takes advantage of confirmation bias by refocusing us on the inverse of our expectation.

A guy I'd recommend for floor leveling

I've been having some work done on my house, and if you're in the Middle Tennessee area and have floor leveling needs - like fixing sags in your floor by putting in supplemental supports - I wanted to recommend Bruce Little.  He's done two jobs for me over the years, is a class act, and is somebody you can tell loves the process of leveling floors and cares about doing a top notch job.  He even makes some of his own heavy duty equipment.

Additionally, I wanted to add that he recently returned a call from me while he was on vacation.  Again, the last job he did for me was probably 8-9 months ago, and he returned a call from me while on his vacation.

Anyhow, it's often difficult to find referrals for people you can trust to do good work on your home, but I just wanted to recommend Bruce Little.  In his day job he works for Powerlift and you can find him by searching his name and powerlift (or just contact powerlift and they'll put you through to him), but he does small jobs on the side in his free time that are too small for powerlift to mess with.

search tags:  Bruce Little, floor leveling, BC Leveling, Tennessee, Middle Tennessee, Nashville

Bacteria that live off of electricity

I hadn't heard of this finding of microbes that link together in chains and live off of the electrical differential/potential as electrons flow across the circuit created.

Here's the article:  Have we found alien life?

quote: “It is kind of like science fiction,” he says. To a biologist, finding life that chugs along without a molecular energy source such as carbohydrates is about as unlikely as seeing passengers flying through the air without an airplane.

Here's a couple of related videos:

 
 

Bowhead whales live up to 200 years

Here's an interesting article on longevity research and a genetic study of bowhead whales.  The whales can live up to 2000 year.  

quote: The team found that the whales have genes related to DNA repair, as well as those regulating how cells proliferate, that differ from those found in humans.

Horizontal drilling

Ever wonder exactly how the horizontal drilling and fracking process works?  Here's a pretty cool video that shows what's going on.  It's amazing to me that this can technically be done.

http://www.oerb.com/?tabid=242

and a story from Foreign Affairs arguing that oil shale and natural gas boom that we've seen in the past decade or so could've only happened in the US due largely to individual land rights, legal system, and an economic structure that can support a large number of small independent operators.

http://www.foreignaffairs.com/articles/141203/robert-a-hefner-iii/the-united-states-of-gas

The article concludes that despite large stores of natural gas in other parts of the world, it will likely be difficult to recreate the U.S. success globally.

Public ownership of sports franchises

I've wondered why cities are willing to spend huge sums of money on stadiums and arenas, but don't just go ahead and buy the sports franchise itself? 

Here's a Vice article discussing this
https://sports.vice.com/article/the-radical-case-for-cities-buying-sports-teams-not-sports-stadiums

"And then there were those who wondered: for $183 million, wouldn't it have been cheaper for D.C. to skip the stadium and just buy the team?"

S&P500 and international exposure

I was thinking about asset allocation today - specifically: "what is international exposure?"

In particular, how much international exposure is built into the S&P500, or should we have explicit international exposure?  

Well, with some quick googling it seems the S&P 500 companies have anywhere from 33% to 50% of revenues coming from outside the U.S.  On the low end , this article mentions research showing that 33% of the revenue from S&P500 companies is derived outside of the US.  Here's another article that says 50% of S&P500 revenue comes from foreign sources.    This story from 2011 puts the figure at 47%.  I'm not sure why the wide range, but we're probably safe saying many of the big American companies have significant international exposure - anywhere from 33% to 50% in aggregate. 

So do I need an explicit international index in my portfolio?  After seeing this I'm less concerned about needing that, especially if I have a large S&P500 exposure or invest in US large cap companies.  In particular, I would want to make sure I don't inadvertently over-weight international by calling the S&P500 "domestic" exposure when it's probably close to a 50/50 split of domestic/international exposure already.

Strandbeests - wind powered creatures

Creative Stuff:

http://www.strandbeest.com/

story: Alzheimers is type 3 diabetes

Interesting story - I hadn't heard this link before.   Evidence that Alzheimer's might be related to diabetes - at least as a correlated factor, and perhaps as contributing.  The connecting factor being that the brain has many insulin receptors governing brain glucose uptake.

http://bigthink.com/devil-in-the-data/alzheimers-is-type-3-diabetes

Interesting read in any event.

Human Powered Helicopter

I just happened across this video of human powered helicopter called Gamera II, from the University of Maryland.

Thirsty Tomatoes

Here's how the tomatoes looked after I got back over the weekend.  This was going on their second day without me watering them:

Tomatoes

Here's some of the first red tomatoes from this year.   They're looking to be pretty good.

The ones above are bigger than I grew last year.  Home Depot was out of the little ones that I like.  Below are some smaller greener Romas from extra plants that my uncle Danny brought to my Dad.  They should be coming in pretty soon.

HFT hearings

I'm watching the high frequency trading hearings on C-Span that likely arose from information published in Michael Lewis's "Flashboys" book that should arouse serious concerns from anyone who reads it.  I'm a fan of Brad Katsuyama who's talked about in the book who built a new exchange IEX to try to create more fair markets.

During the hearings, it is amazing to me how Sen Ron Johnson is willfully unconcerned during these hearings, and it's so frustrating to watch him try to get the panelists to say something other than what they're saying, and he seems to suggest that to even bring attention to these issues hurts investor confidence in the markets.  The panelists give an answer in conflict with his preferred answer, and he repeatedly tries to ask it a different way to get a different answer.  Much effort to create a case of: "there's nothing to see here, lets move along."

This is very much a case of diffuse harms (investors) vs. concentrated interests (hft firms, exchanges, brokers).

EDIT:  Thomas Farley, president of NYSE Group, actually just testified that part of the existing market structure (maker-taker pricing where brokers get paid for their orderflow) creates conflicts of interest in the market and he would be in favor of reducing/removing them.

Throwing out the old boom box

I'm going to have to throw out the old GE boom box.   My brother got this back when Michael Jackson was coming out with the Thriller album, around December 1983.   I ended up taking it from him when I went to college.

The radio still works on it, but the tape deck started dragging pretty badly a few years back, and today I checked and it doesn't work at all.   Model was GE cassette recorder 3-5257A.  I'm going to sound old, but they really don't make them like this anymore.  In my opinion, people would buy more boom boxes again if they were built solidly like this one.  I never got another because the one's in the stores seemed so cheap in comparison.  In particular, this one made excellent recordings - I'd use it to record song ideas mostly and that's something the newer consumer decks got progressively worse at over time.