Practical analysis for investment professionals
10 October 2019

Robert G. Hagstrom, CFA, on Liberal Arts Investing

“Considering many ideas over a wide range of disciplines gives us perspective and helps us consider the big picture or many aspects of an issue.” — Peter Bevelin, A Few Lessons from Sherlock Holmes

Like the fictional detective Sherlock Holmes, Robert G. Hagstrom, CFA, believes in “considering many ideas over a wide range of disciplines.” In the parlance of investing, he believes that by using multidisciplinary investment decision models, including physics, biology, philosophy, and literature, we can become smarter investors.

Hagstrom, the CIO and senior portfolio manager of the global leaders portfolio at EquityCompass, calls it liberal arts investing and says there are signs this approach is catching on.

“The anecdotal evidence that I have is that this now seems to be a timely topic,” he explained at the CFA Institute Seminar for Global Investors in Chicago.

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Two recent and enormous philanthropic gifts to the humanities signal the growing importance of casting a wide intellectual net, Hagstrom said: William H. “Bill” Miller, CFA, donated $75 million to the Johns Hopkins University Department of Philosophy in 2018, and Stephen Schwarzman, chair, CEO, and co-founder of Blackstone, gave £150 million to the University of Oxford in 2019 to create a center for the humanities.

“For nearly 1,000 years, the study of the humanities at Oxford has been core to Western civilization and scholarship,” Schwarzman said at the time. “We need to ensure that its insights and principles can be adapted to today’s dynamic world.”

Of course, any student of Charlie Munger knows he is a long-time advocate of applying diverse mental models — or, in his words, a “latticework of models” — to decision making.

In fact, as Hagstrom, who is also a bestselling author, pointed out, a multidisciplinary approach goes back to Munger’s now-famous lecture, “A Lesson on Elementary Worldly Wisdom.”

“You’ve got to have models in your head,” Munger said. “And the models have to come from multiple disciplines — because all the wisdom of the world is not to be found in one little academic department.”

And Munger has been true to his word. He made a $110 million gift of stock to the University of Michigan for a graduate student residence hall. At the time, he said that what motivated the donation was his desire to see graduate students across disciplines work together and exchange ideas.

Munger often quotes the mathematician and philosopher Alfred North Whitehead, who spoke of “the fatal unconnectedness of academic disciplines.”

“It’s a pernicious evil. Fatal — I don’t think that’s too strong,” Munger said. “Specialization causes a lot of bad thinking.”

With that as the backdrop, Hagstrom took delegates on a wide-ranging intellectual journey that started with physics and biology and ended with art appreciation — with a literary stop along the way to discuss some of the habits of literature’s greatest sleuths.

Contrary to the criticism of finance and economics for their supposed “physics envy,” physics, according to Hagstrom, “absolutely was the right place to start for modern portfolio theory.”

He continued:

“If you go back and you think about physics, the reason why physics is so dynamic and so powerful is its sense of precision, its sense of predictability — to get to that last decimal point.”

It’s the second law of motion that is the key here, where, for every action, there’s an equal and opposite reaction. “And you can then look at equilibrium and the second law of motion, and it just basically comes all the way through modern portfolio theory today,” Hagstrom said.

The problem is that it doesn’t always make sense to view the world (and markets) through a Newtonian lens. To understand why, Hagstrom quoted writer and philosopher G. K. Chesterton:

“The real trouble with this world of ours is not that it is an unreasonable world, nor even that it is a reasonable one. The commonest kind of trouble is that it is nearly reasonable, but not quite. Life is not an illogicality; yet it is a trap for logicians. It looks just a little more mathematical and regular than it is; its exactitude is obvious, but its inexactitude is hidden; its wildness lies in wait.”

“What he’s saying is, ‘As you look at the world, it does look Newtonian, but not all the time,’” Hagstrom said.

So, it’s time to consider biology because markets are non-equilibrium systems.

“Not every action has an equal reaction,” he said. “Sometimes big, big actions in the market can have no consequence. Sometimes, like the sand pile metaphor, one little grain hits the pile, and the whole thing rushes down. So, you can have that. Negative feedback loops work in physics. The system gets out of whack, it comes back. I know the beginning of security analysis is the same thing. That which has fallen will come back. That which is great will — it’s reversion to the mean that we think is the essence of how money works.”

Now fast forward to literature — specifically, lessons we as investors can glean from studying the great fictional detectives: Edgar Allan Poe’s C. Auguste Dupin, Sir Arthur Conan Doyle’s Holmes, and Chesterton’s Father Brown.

Dupin emphasizes developing a skeptical mindset, not automatically accepting conventional wisdom, and conducting thorough investigations.

Holmes teaches that an investigation should start with an objective and unemotional viewpoint, that we should pay attention to the tiniest details and keep an open mind in the face of new and even contrary information, applying a process of logical reasoning to all we learn. And from Father Brown, we learn to become a student of psychology and seek alternative explanations and re-descriptions.

Hagstrom, whose books include The Detective and the Investor: Uncovering Investment Techniques from the Legendary Sleuths, said his firm encourages interns and analysts to read detective stories.

“We think it’s just a good exercise,” he said. “It’s kind of liberating . . . What did you figure out? What were the signals and things that were going on?”

Former Wall Street Journal and The Motley Fool columnist Morgan Housel put it well when he said Sherlock Holmes “understood that no person has a monopoly on wisdom. The closest you get to the truth is by weaving together as much relevant information from the widest web of various topics and fields as you can . . . That’s also true in investing.”

Hagstrom’s own reading has broadened to encompass art appreciation because, he said, it is relevant to long-term investing: Looking closely at art might help us become better observers of details in other disciplines.

To explain why, Hagstrom told the story of Irwin Braverman, a dermatology professor at the Yale University School of Medicine. Braverman noticed that dermatology residents weren’t describing what they saw on patients as thoroughly as they should.

So he teamed up with Linda Friedlaender, the curator of education at the Yale Center for British Art, and launched an innovative course to improve medical students’ diagnostic and observational skills. The class draws together the disciplines of art and medicine to hone future physicians.

Hagstrom’s observations highlighted the importance of so-called T-shaped skills, which was a key takeaway from the Investment Professional of the Future report from CFA Institute. Of the four skillsets identified — technical, leadership, soft, T-shaped — T-shaped was ranked the highest in importance by nearly half (49%) of the investment professionals surveyed in the report. And within the T-shape category, the skillset that was “most difficult to find in the labor market” was the ability to connect across disciplines.

Why does this matter for investors? A multidisciplinary approach to learning can help us become smarter. And who doesn’t want an edge? “I’ve been studying liberal arts investing for 20 years . . . liberal arts investing becomes popular when things get hard,” Hagstrom said.

“As complexity and markets go up, people are struggling to figure things out. Perhaps what they thought they knew, how it worked, doesn’t work. Things are getting more challenging. And so, they begin to think, ‘Maybe there’s something that I don’t know. I need to think about things differently.’”

Investment Professional of the Future: Changing Roles, Skills, and Organizational Cultures

At the end of his presentation, Hagstrom looked around the roomful of investment professional and asked, “Aren’t we supposed to be the smartest [ones] in class? That’s why [clients] give us the money. That’s why they say, ‘Solve my retirement. Solve my kids’ education.’ Because you’re the really smart [one].”

“Well,” he concluded, “my argument is, We can be smarter.”

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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.


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About the Author(s)
Lauren Foster

Lauren Foster is the former managing editor of Enterprising Investor and co-lead of CFA Institute’s Women in Investment Management initiative. Previously, she worked as a freelance writer for Barron’s and the Financial Times. Prior to her freelance work, Foster spent nearly a decade on staff at the FT as a reporter and editor based in the New York bureau. Foster holds a BA in political science from the University of Cape Town, and an MS in journalism from Columbia University.

1 thought on “Robert G. Hagstrom, CFA, on Liberal Arts Investing”

  1. A Professor says:

    This is a fresh perspective on investing!

    Many firms are full of people cut from the same wood. First, they studied finance & accounting. Second, they went into equity research or banking. Third, they move to the buy-side into a research analyst role. No wonder there is so much groupthink in these places.

    Some asset managers have done a great job of breaking the mold. I read an example of an investment manager that hired a bunch of investigative journalists. These guys were used to dig for information for days, weeks, sometimes months. Needless to say, the firm did incredibly well in developing an edge in uncovering difficult to find information to build their mosaic (note: not MNPI).

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