Moving to the next level of investment governance, version 3.0, is a move from doing things right to doing the right things, to thinking the right way.
With ever greater complexity surrounding investment decision making, investment committees need to adopt an advanced level of governance to secure their scheme’s long-term financial health.
Thinking the right way is not only instrumental to quality decision making but highly dependent on the size and composition of the scheme’s investment committee. The problem is most investment committees reflect the worst of both worlds: they are large and lack diversity.
All the evidence points to smaller committees being more effective than larger ones, with six members considered the ideal. Indeed, the number of performance problems a typical investment committee encounters grows exponentially with the committee’s size, while size runs counter to contributions by each of its members.
However, of greater importance is the committee’s diversity in terms of age, race, gender, socioeconomic and cultural background, and education. By drawing on the diverse knowledge and opinions accumulated by individuals through their varied life experiences typically outsmarts the smartest individual. Being different is just as important as being smart, if not more so.
It is an unfortunate fact that with their relatively homogeneous composition and the fact that, as social animals, most of us are hardwired not to think independently, most committees are destined to succumb to “groupthink”.
Variously blamed for catastrophic events throughout history, such as the Japanese invasion of Pearl Harbour, groupthink arises from the decision making of similar, like-minded individuals. It is characterised by dominant personalities, closed-mindedness and pressure to adopt the group view.
For instance, the order in which people speak has a profound effect on the course a discussion takes as earlier comments tend to set the framework within which the discussion occurs. Moreover, as deference means status usually dictates speaking patterns, the most informed speaker will not necessarily be the most influential.
However, although difficult to overcome, groupthink can be contained if strong and unbiased leadership is demonstrated by the committee chair. Given that democratic decisions tend to outperform dictatorial ones, the chair should encourage each individual to share their knowledge and opinions with the committee in a free and open manner.
After all, the information that tends to be discussed is that which everyone already knows. It is often the information that individuals fail to share with others that holds the key to arriving at the right decision.
In particular, the chair should ensure sufficient time is devoted to evaluating big-picture complex problems, as this is where the diversity of the committee has the potential to reach a more insightful answer than one reached by any one individual.
Dissenting views, in particular, should not be ignored because they can become catalysts for alternative viewpoints to counter group polarisation. As John Maynard Keynes once said: “When someone persuades me I am wrong, I change my mind.”
Quality decision making also incorporates “pre-mortems” – analysing that which could possibly go wrong once the decision is implemented – not least to minimise any subsequent decision regret.
Ultimately, the chair should refrain from swaying opinion and ensure the committee reaches a decision by consensus in a decentralised fashion.
Casting individual votes around the room stimulates groupthink. It is a definite no-no. Once a decision has been made, the committee should agree on the timing of its implementation and take action accordingly.
Although doing things right is a necessary imperative and doing the right things is instrumental to advancing a scheme’s investment governance, thinking the right way is arguably the most important step an investment committee can take in helping to secure a scheme’s long-term financial health. Time to move towards investment governance 3.0.
Chris Wagstaff is the co-author of 'The Trustee Guide to Investment', written with Andrew Clare and published by Palgrave Macmillan.