Business Times

One head is better than two

These are strange and interesting times. I scrapped two columns I wrote trying to make sense of it all. Here we are on the throes of an inflation outbreak, doubts over the availability of fuel in the future and a general feeling of uneasiness amongst readers of English media. Fortunately for those seeking confidence, it's the Sinhalese and Tamil media that counts for opinion in this country. The sales of Sinhalese and Tamil newspapers outnumber English by a margin of five to one! Most readers of English media are startled by that statistic. This puzzlement serves as an example of what can go wrong when you ask a group of people to solve a problem, or agree on a good investment.

The eternal hope is that groups come together, exchange ideas, and reach sensible conclusions. The reality of group behaviour is frequently very different. Groups outperform individuals but only under a very strict set of circumstances. Psychologists have shown that statistical groups can outperform individuals and deliberative groups.

A statistical group effectively involves asking a large number of people what they think the answer is and taking the mean. Such groups have a good track record when it comes to forecasting. For instance, when judging the number of beans in a jar, the group average is almost always better than the vast majority of the individual members. In one such experiment, a group of 56 students was asked about a jar containing 850 beans; the group estimate was 871, a better guess than all but one of the students.

Psychologists have documented that on average groups are more likely to amplify rather than alleviate decision-making biases. Groups tend to reduce the variance of opinions, and lead members to have more confidence in their decisions after group discussions (without improving accuracy). Research has shown that, in general, deliberation tends to reduce variance. After talking together, the members of a group will tend to reach a consensus; hence the variance of views is diminished.

Additionally, group discussion tends to lead to group members having more confidence in their decisions after the group deliberations. However, sadly, this increased confidence is not matched by increased accuracy. People simply become surer about the views they hold rather than enjoying an improvement in performance. This confidence seems to be driven by the simple repetition of the view. The more you hear a view, the more you tend to have confidence that the view is correct.

Groups also tend to be very bad at uncovering hidden information. Indeed, members of groups frequently enjoy enhanced competency and credibility in the eyes of their peers if they provide information that agrees with the group view!

Groups also have a tendency to suffer cascades. Under cascades members abandon their individual information, choosing to agree with others, because they think they know more. Groups are also at risk of suffering polarization and possibly groupthink. Polarization occurs when members of a group end up in a more extreme position in line with their original beliefs after discussion with the group. Groupthink is an extreme version of polarization leading to all sorts of problems.

Beating the biases of group behaviour is every bit as difficult as overcoming individual biases. However, secret ballots may help reduce social pressures to conform. The use of devil's advocates may help (but they must believe the case they are arguing, and run the risk of being ostracized). Having respect for the other group members can help, but we all know how difficult that can be.

Investors need to understand group dynamic a lot more than they think is necessary. Companies are but a collection of varying groups of people. The value delivered to shareholders is going to be proportional to how well individual teams within organisations function. Investors are also at the mercy of brokers who may indirectly be part of a conforming group. How many brokers are truly free to break ranks and stand as contrarians? Looking at the data for over two decades from global brokers reveal very little deviation of recommendations between them.

Groups work best when people are unaffected by others' decisions (effectively their errors must be uncorrelated) and the probability of being correct must be independent of the probability of everyone else being correct. Emotionally, the participants must be unaffected by their own vote possibly being decisive.

The effective functioning of groups is going to be critical in how the country gets through the storm clouds it faces on the horizon. We are in need of imaginative and creative solutions to major problems. The time is now to leave behind the fringe lunatics (on all sides of any argument) and provide a strong framework for collective decisions.

(Kajanga is an Investment Specialist based in Sydney, Australia. You can write to him at kajangak@gmail.com).

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