Behavioral economist Dr. Richard Thaler was Monday’s closing keynote at IMCA’s annual conference in National Harbor, Md. Thaler, whose groundbreaking work on behavioral issues is well-known in the advisor industry, was interviewed by IMCA vice chairman John Nersesian. Nersesian began by asking Thaler about claims by many advisors that “they saw 2008 coming.” If so many had, he asked, why hadn’t more investors avoided the aftermath?
Thaler, the Ralph and Dorothy Keller Distinguished Service Professor of Behavioral Science and Economics at the University of Chicago Booth School of Business, responded that hindsight bias—the tendency to remember that our forecasts were better than they really are—is a powerful psychological phenomenon.
“In 2004, who would have predicted that four years later we would have the first black president?” he said by way of example. “Most thought at the time, ‘no way.’ But today everyone is saying they absolutely would have predicted it.”
Clients have selective memories, he added before launching into a story about baseball that he uses in his class. He said he shows his students a clip from an old baseball game between the New York Yankees and Kansas City Royals. The third-base coach for the Yankees had to make a split-second decision as to whether or not to send a runner home. He did, and the runner was thrown out. Following the game, Yankee owner George Steinbrenner fired the base coach.
“Steinbrenner had the benefit of knowing the outcome,” Thaler said. “He hired Don Zimmmer to replace the coach. Zimmer was very conservative. If you fire someone for a poor outcome even though the decision was sound, you will never take risks.”
Continuing with the sports theme, Nersesian noted the extensive work Thaler has done with NFL franchises, and specifically with how teams choose players from the draft.
Thaler said he began with a hunch that teams overvalued early picks; the picks they made were too pricey and they traded away others.
“Is it a smart strategy to trade up in the draft for an earlier pick? No, and they should actually trade down,” Thaler said. “We actually found that that a sixth-round pick is more valuable than a second-round pick.”