31 Aug Are you an Emotionally Intelligent Investor?
I first came across Daniel Goleman’s book Emotional Intelligence in early 2000. At that time I was attending a course at work that taught us how to better interact with customers. Constantly dealing with demanding and emotional customers can be taxing after a while. One of my course mates bought this book to class and shared with us how it helped him access and utilise his emotions better.
I was sold. I loved what the book taught me about myself. The many lessons I picked up then held fast after so many years.
Yale Professor Peter Salovey (Goleman popularised EQ but Salovey came up with the concept some years ago) defines Emotional Intelligence as a person’s ability to recognize and interpret emotions and to use and integrate them productively for optimal reasoning and problem solving. Emotional intelligence should be distinguished from simply “emotional.” An emotional person may feel and/or act more intensely than others; an emotionally intelligent person is one who is able to recognize and use emotions productively.
The five principles of Emotional Intelligence, as introduced by Goleman are as follows.
Out of the five, the first 3, Self Awareness, Self Regulation and Motivation are deemed to be internal, while empathy and social skills tend to be more directed outwards at the environment.
As an alternative to the traditional form of intelligence (IQ), EQ has gained prominence in the recent years. Studies have shown that individuals high in EQ make better leaders, perform better at their jobs, and have higher self esteem. The question begs – Do high EQ individuals make for better investors then? Let us examine the first three principles.
Self Awareness means having a deep understanding of one’s emotions, strengths, weaknesses and drives. Individuals with a high degree of self awareness recognise how their feelings affect themselves and how they function. The decisions Self Aware individuals make mesh with their values.
A highly self aware investor knows what makes himself tick. He understands his own DNA. Emotion wise, he would know if he remains calm and thrives on market volatility or if he would capitulate easily when the market starts to show signs of decline. He would know how consistent and disciplined he can be in seeing his investment objectives through. He would examine two different investment decisions from an inside out perspective – not only the risk-reward ratio of each option, but also how much each option is suitable for himself as an investor.
No two individuals are the same. As such, no two investors are the same as well. We are big fans of both legendary investors Warren Buffett and Walter Schloss. Despite both being disciples of Benjamin Graham who went on to become champions of the investing game, their investing style cannot be more different. Schloss is highly aware of his strengths and weaknesses and knows that he will never be able to invest like Buffett. In fact, Buffett has this to say about Schloss.
I don’t seem to have much influence on Walter. That is one of his strengths; no one has any influence on him.
Self Awareness at its very best!
Self Regulation on the other hand is the ability to manage our emotions and channel them in useful ways. Goleman describes Self Regulation as having an inner conversation about ourselves and our inner feelings and impulses.
Let’s say an investor purchases an undervalued stocked based on CNAV principles. Owning the stock would allow the investor to own all the properties and cash of the company at a significant discount to the purchase price. The business that comes along is just the icing on top of the cake. As long as the fundamentals are sound and the company is not bleeding cash from the business, it is a good stock to own.
Unfortunately a week later the company announces earnings below expectations. The company is still making respectable profits, but due to a series of downgrades from the analysts and the fickle nature of the markets, investors holding the stock panics and the price tanks. Here our investor is faced with a tough choice – the stock he has bought a week ago is now down 20%. Every one is painting a doomsday scenario for the company. It is comforting to sell out and move on.
An investor high in EQ should see self regulation kick in at this time to negate the impulse to sell. He speaks to himself reasoning that the initial justifications for buying the stock remains unchanged and that earnings and analysts recommendations were never in the picture to begin with. If any, the stock is now offering an even greater discount to CNAV. He regulates his own emotions and is able to see his investment through tough times before it eventually recovers.
The third aspect of Emotional Intelligence is Motivation. I quote directly from Goleman’s 1995 article ‘What Makes a Leader’ from the Harvard Business Review.
… how can you identify people who are motivated by the drive to achieve rather than by external rewards? The first sign is a passion for the work itself. Such people seek out creative challenges, love to learn and take great pride in a job well done. They also display an unflagging energy to do things better. People with such energy often seem restless with status quo. They are persistent with their questions about why things are done one way rather than another.
Goleman was in fact writing about using Emotional Intelligence to identify good leaders, but I go one step further to suggest that these are the traits that distinguish a superior investor from a pedestrian one. The superior investor is passionate about his craft, keeps an open mind and never stops learning. More importantly, a motivated investor is less likely to give up after small setbacks.
Finally, motivated people are driven more by achievement than external rewards. The basic desire is to make better investment decisions and become a better investor. That is the achievement highly motivated and high EQ investors are constantly trying to unlock. Someone who is always gunning for the external rewards will be tempted by quick profits, take short cuts and break all strategy rules. Hardly the recipe for investing success at all.
Warren Buffett and IQ.
Buffett is often quoted as saying that investing is not a game where the guy with the 160 IQ beats the guy with the 130 IQ. Perhaps EQ will become widely accepted as the bigger determinant of investment success in the future!