Following the financial crisis and panic of 2008, the role and influence of men in our economy appears to be shrinking just at the time that women’s role and influence is expanding. Men were, by and large, much more affected by job losses in the recent recession. A look at the industries at the root of the problem—housing/construction and finance—explains why. Women now actually make up the majority of the United States’ workforce, marking the first time in our country’s history that that’s been the case.1
More women are also becoming more educated, with women earning almost 60 percent of undergraduate degrees. That same percentage, 60 percent, holds for master’s degrees as well.2 And for the first time ever, women narrowly edged out men in earning PhDs in the 2008–2009 academic year.3 It’s safe to say, then, that women, more than men, are equipping themselves to thrive and prosper in today’s economy and beyond.
Will we see women taking over more financial jobs, too? It’s possible. Women currently earn 42 percent of the country’s MBAs.4 And looking at the overall shift that seems to be taking hold after the crisis, and the increased value that will continue (hopefully) to be placed on calmer temperaments, it’s probable that more women will gravitate to Wall Street.
So then, if we believe that men and women adopting a more “feminine” attitude toward investing could change the world of finance for the better, and at the same time fatten our individual brokerage accounts (it’s not all about mere philosophizing here), we’d better back up our claims, right? After all, basing our assumptions on so-called “female intuition” would be downright sexist.
Lucky for us, academic researchers and behavioral economists have been putting in the long hours and hard work necessary to tease out the differences between how men invest and how women invest. The studies and surveys go back years and cover nearly every aspect of investing—decision making, risk assessment, trading frequency, and consistency of results, just to name a few.
Researchers have also studied the differences among professional investors, both male and female, highlighting the fact that these variations in temperament aren’t limited just to the universe of the individual investor. And some of the most interesting recent studies have just begun to uncover the role of testosterone in investing, risk taking, and trading. You’re not shocked to hear it has one, are you?
GIRLS WILL BE GIRLS
Brad M. Barber and Terrance Odean of the University of California (Davis and Berkeley campuses, respectively) published what is likely the most famous (or infamous, in some circles) and groundbreaking study on gender differences in investing with their February 2001 Quarterly Journal of Economics paper, “Boys Will Be Boys: Gender, Overconfidence, and Common Stock Investment.”5 (Gotta love that title, right?)
By surveying 35,000 discount brokerage accounts over a nearly six-year period, Barber and Odean found several distinct differences both in temperament and performance for men versus women. Their paper was predicated on prior research, which had shown that men tend to be more overconfident than women in so-called “manly” pursuits (of which, we can still, sadly but not surprisingly, count finance). Put simply, men think they know more than they do. Women are more willing to admit that they know what they don’t know. They’re more willing to own up to the fact that they don’t know everything.
So, how does the issue of overconfidence play into investing behavior and results? Well, because of their overconfidence, it was assumed—correctly, as it turned out—that men would trade more than women do. And what does more frequent trading do to your investment results? It drags them down, running up transaction costs and acting like the proverbial albatross on what might otherwise be smart investment decisions.
Barber and Odean found that men traded the stocks (also known as “securities”) in their accounts 45 percent more than women did. Forty-five percent! This excessive flip-flopping of securities reduced their net returns by 2.65 percentage points, compared to the 1.72 percentage points women dinged their accounts by trading. Single men were even worse offenders, trading 67 percent more than single women.
Married men fared worse than married women, but they weren’t as bad off as the single guys. This wasn’t surprising to Barber and Odean, given everything they knew about overconfidence studies. It’s possible that wives were influencing their husbands here, helping them tone down their overconfidence, and that in turn helped their investment returns.
Now, it should be noted that Barber and Odean found that both sexes hurt themselves by trading too frequently—men just hurt themselves more. Unnecessary trading is the real devil here.
Here’s where one of the most interesting outcomes from Barber and Odean comes into play for our purposes—women’s outperformance over the men wasn’t related to better stock picking or to market timing. It wasn’t that women were finding the perfect stocks at the perfect time. Barber and Odean emphasize this again and again in their paper.
The key here is that women’s trading hurt their performance less than men’s, thanks to men’s greater overconfidence. The difference, then, is more related to temperament than it is to skill. You can be the smartest securities analyst around, but not having the correct mindset can absolutely sink you as an investor. All the know-how in the world can’t correct for bad habits. Temperament matters, plain and simple.
Barber and Odean also pioneered the insight that “women tend to hold less risky positions than men in their common stock portfolios.” Prior social science research had shown that women, on average, are more risk averse than men, but this (according to the authors themselves) was the first bit of documented evidence that women were choosing safer securities than men were.
The study measured “risk” for the investors’ portfolios multiple ways (we can boil it down to “volatility” for our purposes here), and across them all, men exposed themselves to more risk than women did, with (who else?) single men exposing themselves to the most. Higher risk exposure should result in higher returns—that’s what compensates investors for taking it, after all. If you didn’t think you’d be rewarded for forgoing a sure thing for a less sure thing, you wouldn’t do it, right?
But here that’s not the case. Despite their willingness to go for risk with gusto, the male investors in Barber and Odean’s study simply traded their profits away. Once again, we’re face-to-face with temperament.
So from Barber and Odean we can see that because men are overconfident they trade more (much more) than women do, and as a result, women’s returns are higher. We also have learned that women tend to hold less risky securities than men do. Trade less, while taking less risk. So far, score two for the gentler sex.
TAKE THE MONEY AND RUN
Mutual fund powerhouse Vanguard analyzed the movements in 2.7 million of its investors’ IRA accounts during the financial panic of 2008 and 2009, and what they found shouldn’t surprise anyone who knows about Barber and Odean’s results.6
Yes indeed, women were more likely than men to stay put during the herky-jerky market antics, not touching their portfolios. More men tended to freak out and sell their stocks right at precisely the wrong time—the bottom. They locked in undoubtedly huge losses, and on the flip side likely missed out on the market’s recovery as well. Men’s overconfidence apparently led them to trade when they shouldn’t have, when the best course of action would have been to stand pat.
Remember the harrowing scenes I described in chapter 1, with the market collapsing all around us? It was a difficult time to be steady and do the right thing, which was, of course, to not sell. The ability to be calm and not make rash decisions in the face of such chaos is an incredibly important characteristic of successful investors over the long term. It’s also one of the most difficult to master. At the time, it feels like absolute hell. Trust me, I remember how it was that fall. I remember my stomach turning, watching as my portfolio got redder and redder day by day. But I also knew that I’d feel worse whenever the world finally stopped ending if I’d thrown my hands up in the air and sold everything, versus just taking a deep breath and being still. Based on Vanguard’s data at least, it appears that in this most recent investment storm, women, more than men, demonstrated this vital ability to be patient and wait it out.
WHEN OPTIMISM ISN’T OPTIMAL
So far we’ve learned that women tend to trade less than men, take less risk, and are more likely not to sell at the worst possible time. Now we’ll look at a positive aspect of pessimism, as counterintuitive as that might sound.
In her paper “Female Investors and Securities Fraud: Is the Reasonable Investor a Woman?” Joan MacLeod Heminway of the University of Tennessee College of Law presents a concise history of much of the research on male versus female investing habits.7 One interesting point she highlights is that female investors may be less optimistic than male investors—and I think that’s a good thing.
While optimism in most parts of our lives is something to strive for, in investing it can poison your judgment and outlook. Optimists tend to overstate their abilities and investment acumen (hello “overconfidence” from Barber and Odean), take more risks, and can sometimes pay attention only to information that is positive and supports conclusions they’ve already come to. Because of their sunny outlook, they tend to assume only the best can happen to their stocks, and they don’t want to hear otherwise.
Pessimists, on the other hand, tend to be more realistic, and in investing, clear-eyed realism beats pie-in-the-sky optimism any day of the week. Women, thanks partly to the fact that they lack the same confidence levels as men, and also rate their investing knowledge below what men believe about their own investing skill, tend to react more realistically. They’re better judges about their potential returns and abilities, even if that means they tend to doubt themselves more. Overconfidence and optimism can kill returns, so in this case, a little self-doubt can actually work in women’s favor.
GIRLS JUST WANT TO HAVE FUNDS
We know now that female individual investors tend to be less optimistic, are less likely to panic and sell when the market’s crashing around them, and tend to trade less and take less risk. But what about professional investors who happen to be women? Do these differences still hold?
Stefan Ruenzi and Alexandra Niessen conducted a study on the differences between male and female mutual fund managers that verified some past findings and uncovered new ones.8 The pair analyzed returns for all U.S. mutual funds run by individuals (versus teams) for the period from January 1994 to December 2006. In the end, the authors studied 15,170 funds; about 10 percent of those were managed by women. While the differences for this subset of investors weren’t as pronounced as they were for retail (or individual) investors, they nonetheless highlighted key temperament advantages for women.
Again, female investors were shown to be more risk averse than male investors. The new spin here is that the female fund managers chose to invest using “significantly less extreme investment styles” than did the male managers. Not only that, but women stuck to their investment guns more than men; they didn’t see a need to be changing up investment styles willy-nilly. And once again, female investors traded less frequently than males did. Yes, even among professionals, that difference still held.
What’s interesting here, however, is that there was not a performance advantage for women over men thanks to their calm, patient temperaments. Performance between the two groups was about equal. But performance isn’t everything. Consistency and “performance persistence” (or the ability to generate steady returns year after year) matter, too.
Ruenzi and Niessen demonstrated that thanks to staying true to their investment process and philosophy and not switching up investment styles to chase the next hot thing, and thanks to their seemingly natural willingness to invest using “less extreme investment styles,” the female-managed mutual funds in the study achieved more consistent returns with more persistent performance. In short, there were fewer wild performance swings in the female-managed funds than in the male-managed funds. To quote the study’s authors, “These findings show that past performance is a better indicator of future performance for female managed funds than for male managed funds.”9
While there may not have been significant performance differences between male and female mutual fund managers, recent statistics about hedge fund managers reveal exactly the opposite. A hedge fund is a special type of investment fund available almost exclusively to high-net-worth individuals and institutional investors. Typically, the managers of the funds “hedge” positions within their portfolios, going both long and short stocks (that is, they are betting that some stocks will go up in value and some will go down). In many cases, a hedge fund can be riskier than your average mutual fund.
Hedge Fund Research, Inc., a source of information and data on the hedge fund industry, tracked the annualized performance of female-managed hedge funds from 2000 to May 2009.10 They discovered that funds managed by women have, since inception, returned an average 9.06 percent, compared to just 5.82 percent averaged by a weighted index of other hedge funds. As if that outperformance weren’t impressive enough, the group also found that during the financial panic of 2008, these women-managed funds weren’t hurt nearly as severely as the rest of the hedge fund universe, with the funds dropping 9.61 percent compared to the 19.03 percent suffered by other funds. So, they performed better on the upside and lost less on the downside. While this study didn’t get into the particulars of the reasons for this superior performance, we can take a guess that it probably had something to do with what we’ve seen in the other studies.
PUTTING PEER PRESSURE IN ITS PLACE
All right, so far we’ve built an image in our heads of the female investor as one who takes less risk, trades less, tends to be more realistic, and withstands whipsawing markets better than male investors. We’ve also learned that female investors tend to produce results that are more consistent, and in the hedge fund world, female-managed funds perform better on both the upside and the downside than do male-managed funds. But there’s more to discover yet about the temperament and tendencies of women in the world of investing.
A recent report out from the National Council for Research on Women,11 imploring the financial industry to add more women to fund-management positions, highlighted many of the studies and surveys about women and investing. Of course, the council has a strong point of view, and the report seeks to persuade the industry that adding more women will result in better investment returns, less risk taking, and the benefits that come from having diversity of thought. Looking at what we’ve already learned, seems they’ve got a point.
What’s interesting here, though, are two specific findings highlighted in the report: Women research their investment decisions more thoroughly than men do, and second, they are less likely to bend to peer pressure.
The report points to a 2002 study in the International Journal of Bank Marketing that showed that women dig deeper, analyze more information and details, and are more likely to consider all information relating to a possible investment, even if it contradicts their initial research. In short, they want to know as much as they can and they take the time to learn it. Men, on the other hand, tend to take shortcuts with information, looking at the broadest factors and skipping data that goes against their initial thoughts. In other words, men keep it simple and move ahead; women like to get into the nitty-gritty and take their time. This makes sense when we consider the differing attitudes toward risk we’ve already discussed.
The next finding is even more fascinating. A 2008 University of California, Santa Barbara, study found that when men are being observed and judged by other men they consider of equal status (or, their peers), they tend to make riskier decisions than necessary in times of strife or loss, in an attempt to assert dominance. Worse still, even when the outcome would have been exactly the same had less risk been taken, the guys still chose the riskier path.
Women didn’t have this same reaction; they chose the same path regardless of who was observing them. They seem better able to avoid posturing and make decisions based on the factors at hand, versus trying to one-up a perceived competitor. Thinking about this peer pressure effect in the context of the financial crisis, where trading floors and boardrooms were filled with men trying to outdo one another, is fascinating, and also troubling. It just goes to show that peer pressure isn’t just an issue for thirteen-year-old girls battling it out on the mean streets of the suburban junior high school (“Seriously? She said what about me?”).
YOU MUST BE MISTAKEN
Helping characterize our female investor, whom we’ve already discovered tends to trade less, take less risk, be more realistic, withstand the temptation of panicked moves in moments of market mayhem, conduct more thorough research, and resist peer pressure, is this bit of data about learning from mistakes. Merrill Lynch Investment Managers, now a part of BlackRock, conducted a nationwide telephone poll in 2004 of a thousand investors (500 men and 500 women).12 Yet again, some key differences in temperament between female investors and male investors cropped up.
The Merrill survey found that men were more likely to buy a “hot investment without doing any research” (24 percent versus 13 percent). Of the men who admitted to this mistake, 63 percent copped to doing it more than once. Forty-seven percent of women who committed the same error did it again. We shouldn’t be surprised to learn that men, when asked in the survey about which emotions played a part in their investment errors, cited greed, overconfidence, and impatience much more than women did.
Recognizing that you’ve made a mistake and then taking the steps to learn from it so that you don’t repeat it is important for investors. As we’ll see later, Warren Buffett is especially good at this. And at least based on this survey, and given what we’ve learned so far about overconfidence and the effect it can have on clear thinking, it appears that women have the edge here, too.
BLAME IT ON THE HORMONES
Behavioral economics has shown us that women are more risk averse than men, that they trade less and their portfolios perform better, that they are more realistic, that they are more consistent investors, and that they tend to engage in more thorough research and ignore peer pressure. Thanks to years of work in behavioral economics and finance by people like Terrance Odean and Brad Barber, we have a good grasp of what makes female investors’ temperaments, on the whole, more desirable.
Recent studies from the emerging field of neuroeconomics show us something else entirely: Women’s relative lack of testosterone compared to men means they may actually be hardwired to be calmer, more disciplined investors. (Sorry, guys.) Neuroeconomics (the term was reportedly coined by Professor Paul Zak of Claremont Graduate University) seeks to combine “methods from neuroscience and economics to study how people make decisions involving risk, as well as strategic decisions involving relationships with others.”13 By looking at the way chemicals within the body affect our brains and thinking patterns, this exciting area of study opens up a world of new possibilities for understanding financial decision making and risk taking.
John M. Coates, of the University of Cambridge, shook the world of finance in 2008 when he released the preliminary results of a study he did involving testosterone, cortisol, and trading profits.14 Coates, along with coauthor Joe Herbert, gathered saliva samples from seventeen traders in London twice a day for eight days, and tracked the traders’ testosterone and cortisol levels. Coates then followed up his earlier study by coauthoring another, more detailed study, based on the findings involving those seventeen traders and their testosterone and cortisol levels.15 That’s the study we’ll dig into here. (Don’t be afraid—science can be fun, I promise.)
These traders were involved with highly active speculation, holding mostly futures contract positions (a complex form of financial instrument that involves betting on the future price of a commodity or stock index), in some cases for mere seconds. We aren’t talking about your typical individual stock investors here, but nonetheless, the findings are fascinating and have potentially broad implications.
(In case you need a high school biology refresher, testosterone and cortisol are both natural steroids [a type of hormone] that help our minds and bodies in instinctual situations such as fight or flight, and propel us to mate as well as strive for success and status.)
Relying on two prior theories about testosterone, the “challenge” hypothesis and the “winner effect,” the scientists set out to measure how testosterone affects financial risk taking. The “challenge” hypothesis suggests that in males, testosterone levels initially rise just as high as are needed for sexual activity; they rise higher only when the male is confronted with a threat, creating aggression.
However, the “challenge” hypothesis has been easier to find evidence for in animal studies than in human studies, owing in part to the fact that our highly developed brains can overcome more of the effects of hormones than other species can. Further, it’s hard to pin down exactly what each study means and how each study measures rather nebulous topics like “aggression.” This is one reason the British scientists were optimistic about their study—it’s easy to quantify and measure a trader’s profits and losses, for instance. Not much wiggle room there. Also, while male traders may not become “aggressive” to the point of picking fights and getting physical, a “challenge” still exists for them in the form of competition with one another for ever higher returns. (Remember, too, what we learned earlier about the effects of peer pressure on men.)
The “winner effect,” on the other hand, is well documented in both the animal kingdom and in the world of sports. Basically, it describes the way testosterone levels work in competitors, either in a battle between animals, or a battle between athletes or sports teams. Put simply, testosterone levels rise in anticipation of a confrontation or competition. The winning animal or athlete, however, comes out on the other side with higher testosterone levels, and the loser with, well, you guessed it—lower testosterone levels (and undoubtedly his tail, figuratively or otherwise, between his legs). What’s even more intriguing is that winning leads to higher testosterone, which leads to more winning, which creates a feedback loop of victory and heightened testosterone levels. Hence the “winner effect.”
So by framing their research with the “challenge” hypothesis and the “winner effect,” the authors wanted to see if there was a correlation between testosterone levels and the traders’ most profitable days. They discovered that on days when the traders were the most successful, and made the most money, they indeed exhibited the highest levels of testosterone.
Visions of bulging neck veins, red faces, and sweating, screaming traders aside, this research suggests that higher levels of testosterone may have helped these traders better sort through lots of information in a quicker period of time. It also likely helped them make fast, risky decisions. The style of “high-frequency” trading these guys were engaging in was the perfect expression of testosterone’s benefits. The authors shared a belief that for other, more measured styles of investing, testosterone’s benefits may actually hurt results. They also noted that this kind of frenetic trading actually has a physical component to it as well, which may also have benefited from the presence of increased levels of testosterone.
The other hormone in play here, cortisol, rises in stressful situations. Thus the scientists believed it would jump when traders started losing money. However, that’s not what they found, exactly. Cortisol levels did rise, but it wasn’t related to traders losing money. Instead, rises in cortisol showed a correlation with rises in market volatility.
Cortisol helps us prepare for the unexpected and the uncertain, and market volatility creates scenarios that are highly uncertain. Quoting from the study, “Our results raise the possibility that while testosterone codes for economic return, cortisol codes for risk.”16 So when markets are going haywire, and traders aren’t sure what’s coming next, their cortisol levels jump, prepping them to be ready for the unknown.
All right, so if we know that highly successful traders have increased levels of testosterone, and we know that their bodies respond to market volatility and uncertainty by producing more of the stress hormone cortisol, what’s it all mean for both female and male investors and the financial markets at large? Well, it’s the flip side of these positive effects of testosterone and cortisol that can harm individual results, and possibly, when looked at from a macro perspective, even harm our financial markets.
Taking a look at cortisol first, the study finds that when cortisol reaches certain levels, it can actually start hurting performance by making traders irrationally risk averse. They see danger behind every market movement, boogeymen behind every ticker symbol or flicker on the screen. When cortisol levels are too elevated for too long, and the condition becomes chronic, it can become a nearly self-fulfilling prophecy, with traders unwilling to act even when it’s the smart thing to do, and even when it’s in their best interest to do so. Fear settles in, anxiety takes hold, and cortisol’s grip is secure.
At a macro level, this mental paralysis can possibly result in a market downturn becoming more protracted than it otherwise would be. Volatility begets cortisol which begets fear which begets even more volatility and on and on. It can potentially add to an already plummeting market, making a scary drop even worse.
Testosterone, as we mentioned earlier, can help traders take risks and move fast, making loads of money in the meantime. But too much testosterone for too long can encourage too much risk taking, and the profitable testosterone-laden trader of today can end up reversing course tomorrow. Throw in some market volatility and we find that a blazing risk taker can quickly become nervous about risk, effectively throwing the market on its head. The study’s conclusion, then, is not necessarily that market bubbles and crashes are caused by hormones, but they do suggest that “hormones may exaggerate moves once under way.”17
Further, the authors suggest that having more gender and age diversity in the financial markets could greatly help market stability. They point out that women have only 5–10 percent of the testosterone levels that men do, and, as we’ve just learned, some studies show that they are less likely to succumb to the stress and peer pressure created by competitive situations than men. There’s reason to believe, then, that adding women to trading floors, boardrooms, and other male-heavy strongholds in the financial world (which is still just about all of them) would, thanks to women’s naturally occurring lack of testosterone, “help dampen hormonal swings in the market.”18 (Insert your own joke here.)
So would the worldwide financial panic in the fall of 2008 have happened or been as severe had more women been more involved in the world of high finance, their lack of testosterone mediating the effects of the male hormone, lessening the highs and lows, calming the tempest? Of course no one can say with 100 percent certainty, but all indications point to a greater diversity of not only gender, but of thought, experience, and worldview, potentially leading to a different outcome.
PORTRAIT OF A FEMALE INVESTOR
The hardworking scientists and academics in the worlds of behavioral finance and neuroeconomics will undoubtedly continue to study the differences in investment behavior, attitudes, and outcomes between men and women. It’s never dull, sometimes controversial, and always enlightening. Putting together what we’ve learned here paints a picture of what a successful investment temperament looks like, and it’s awfully familiar. But before getting into the traits female investors share with Warren Buffett, what makes him the greatest investor of all time, and what we could all learn from his temperament, let’s recap.
Female investors tend to:
1. Trade less than men do
2. Exhibit less overconfidence: men think they know more than they do, while women are more likely to know what they don’t know
3. Shun risk more than male investors do
4. Be less optimistic, and therefore more realistic, than their male counterparts
5. Put in more time and effort researching possible investments, considering every angle and detail, as well as considering alternate points of view
6. Be more immune to peer pressure and tend to make decisions the same way regardless of who’s watching
7. Learn from their mistakes
8. Have less testosterone than men do, making them less willing to take extreme risks, which, in turn, could lead to less extreme market cycles
As a result of their different approach to investing, and their temperaments, female investors also produce results that are more consistent and persistent. You can count on ’em. And in the hedge fund world, female-managed hedge funds outperform comparable male-managed hedge funds, and their results don’t suffer from market drops as severely.
The above eight traits represent an investing mindset that all investors—men and women alike—should adopt. And we all can—it’s possible. It won’t be easy, it’ll take practice and hard work, and we’ll slip up from time to time, but it’s possible. We’re more likely to reach the same superior outcomes as female investors—and Warren Buffett, as we’ll see—if we do so.
It’s also important that we try. We need to bury the old Wall Street attitude of yore. As we’ve seen with the financial crisis, eventually it all catches up to those involved and even those who aren’t. Just about everyone ends up the poorer for it. So read on as we uncover how the greatest investor of all time is actually more in tune with his feminine side than you might have realized, and why, when it comes to investing, this is a very good thing.