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Using the lessons of golf to develop a financial strategy for 2013 and beyond
- 1 -Brent G. Schutte, CFA, CFP®Market StrategistVice President(312) 461-3192Current Market UpdatePsst…It is Almost February…Remember those New Year’s PromisesAs the holidays drift further into the past and the promise of a new year turns into the reality of the present, it ishelpful to remind ourselves of the goals that we made as the clock struck midnight on December 31st. For most of usthese New Year’s “pledges” include a dose of healthier living and a heavy helping of increased financial well-being.While I would love to be able to claim expertise in healthy living, I’ll stick to my knitting and focus on the financialaspects of life.Financial markets and planning are often perplexing to individuals who struggle to make decisions when confrontedwith many uncertain and unknown variables. How does one decide a path forward when they hear two supposedmarket experts outlining two very different outcomes for financial markets over the subsequent years? Inevitablyemotions take over and well intentioned strategies go awry. In order to help individuals understand and avoidcommon investing pitfalls, we believe the use of sports as an example may offer an opportunity to develop a checklistfor financial success.Sports provide a small microcosm of life and the biases that inevitably creep into our daily routines and decisionmaking process. Perhaps no sport defines this reality more than golf. Much like financial markets and planning, golfis a sport that places a premium on risk and reward decisions amongst a backdrop of ever changing conditions andoutlooks. The professional golfer enters each round with a strategy for navigating through the course but this planmust be tweaked and altered as their position on the course and the leaderboard changes.The Uniqueness of the Waste Management Phoenix OpenThis week the PGA tour returns to the TPC Stadium Course in Scottsdale, Arizona for the Waste Management PhoenixOpen. Over the recent past this tournament has become known for its record breaking “vocal” crowds and positionopposite the NFL’s Super Bowl. Perhaps no hole in golf has become more publicized and critiqued more than TPC’sPar 3 16th hole. With bleachers completely encircling it, the hole has become unique on the PGA tour, not because ofits difficulty, but rather because of the oft rowdy crowds that gather to watch golf’s super stars.This year’s returning champ, Kyle Stanley, is as famous for what he did the week before the last year’s PhoenixOpen as he is for winning the tournament. At the 2012 Farmers Insurance Open, Mr. Stanley possessed a seeminglyinsurmountable seven shot lead during the final round. Needing only a double bogey on the par 5 18th to defeat hisnearest competitor, Mr. Stanley attempted to play the hole safe. However, the strategy back-fired and Mr. Stanley wasonly able to muster a triple bogey and a spot in playoff which he ultimately lost.January 29, 2013The Waste Management Phoenix OpenA Behavioral Finance Laboratory* Please see Disclosure
Current Market Update- 2 -In a twist of fate, Mr. Stanley entered the final round of the 2012 Phoenix Open trailing the leader, Spencer Levin,by eight shots. Brilliantly he shot a bogey free round of 65 and ended up taking the title and a bit of redemption.Pressure was the differentiator…right? Perhaps this is the case, however, we contend and recent research indicatesthat other behavioral factors may have also been at play.The Link between Behavioral Finance and GolfOver the past few decades, a field of economics known as Behavioral Finance has taken root. Essentially, theadvocates of this field relax the principal assumption of economic models; namely that agents in an economy react ina rational manner and attempt to maximize their own utility. In other words, “Behavorialists” believe that biases andhuman emotion play a critical role in the decision making process and can lead to irrational outcomes. One of thefoundations for this field was laid in 1979 when Nobel Prize winning professor, Daniel Kahneman and his colleague atPrinceton, Amos Tversky, developed Prospect Theory. Their research defined how individuals make decisions underrisk and uncertainty. Without delving too deeply into the geeky details, Prospect Theory asserts that humans makedecisions based upon the value of individual gains and losses (reference value) rather than the more important finaloutcome and that they internalize losses more than gains (loss aversion).So how does this relate to golf? Recent research has shown that professional golfers are subject to Prospect Theoryand loss aversion. In a 2009 study, Professors Devin G. Pope and Maurice E Schweitzer, both then each at the WhartonSchool of the University of Pennsylvania, analyzed putting data from the PGA Tour during the years 2004-2009.Controlling for a number of variables, the authors found that 94% of golfers they analyzed made par putts about 2%- 4% more often than they did birdie putts of a similar distance and difficulty. Birdie putts were left short of the hole,while par puts finished past the whole. The Professors found that golfers were willing to sacrifice success in puttingfor a birdie (gains) to avoid encoding the loss of missing a par (loss). In other words, golfers view making birdie asless important than missing par, although rationally they should be indifferent between a birdie (-1) and bogey (+1)in aggregate. The golfers that the authors interviewed quipped that gaining a stroke was not as important as justnot losing one. Interestingly this phenomenon decreased as the rounds progressed. The authors hypothesized thatthe reason was their reference point changed from their own performance versus par on Thursday and Friday to thegolfer’s score who resided at the top (or behind them) on Saturday and Sunday.The 2012 Waste Management Phoenix Open – A Behavioral ExaminationConnecting the dots to our earlier comments about the 2012 Phoenix Open provides interesting commentary onProspect Theory and loss aversion. Without a doubt, Mr. Stanley’s reference point changed on that Sunday at theFarmers Insurance Open. No longer was he playing for the best score but rather his reference point shifted to holdingoff whoever was in second place. In other words his actions where consistent with loss aversion as he likely becamemore risk averse in the positive domain (avoid loss).Contrast this with his starting position on the following Sunday in Scottsdale where he found himself trailing. In hispost tournament comments, Mr. Stanley stated, “When you have a big lead, its human nature to want to protectit. I think it is a little easier kind of being on the chasing side.” Interestingly, the man Mr. Stanley overtook for thevictory, Spencer Levin, seemed to understand the potential pitfalls of loss aversion but this wasn’t enough to stop thebleeding. After he raced into the lead on Friday, Mr. Levin stated, “You don’t want to get too tentative or play awayfrom shots. If you want to play well and make birdies you can’t do that, so I’m just going to try and stay as aggressiveas I can the next two days.” Interestingly, Mr. Stanley made 62 out of 65 putts from within ten feet during the Phoenix Open. This suggests that hemust have been exerting equal energy on the birdie and the par putts. Conversely, most commentators have peggedMr. Levin’s downfall specifically to his double bogey on the par 5 15th hole that dropped him 2 shots off the lead on* Please see Disclosure