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'Daredevils' Make Bad Investors, Great CEOs

ByJoe Mont, Staff Writer

BOSTON (MainStreet) -- As a kid, you idolized Evel Knievel and The Fonz, suffering many a skinned knee jumping your bike over neighborhood pets and trash cans. You were a devil-may-care skateboarder and always the first one to leap from a bridge into the creek below. Growing older, your idea of fun turned to roller coasters and bungee jumping, skydiving and paintball. You became the sort of person who relishes trips to Vegas and going all-in at high-stakes poker tables with the likes of A-Rod and Matt Damon. You drive like you live -- fast and furious -- be it in a sports car or straddling a motorcycle.

Those who thrive on risk -- from speeding cars to bungee jumps -- are often gambling with their money as well.

The daredevils and thrill-seekers of the world may have great stories to tell and a flashy lifestyle that's the envy of many. But does their larger-than-life persona and penchant for risk-taking make them better investors? Not so much. A 2008 research study, Sensation Seeking, Overconfidence and Trading Activity, by Mark Grinblatt of the UCLA Anderson School of Management and Matti Keloharju of the Helsinki School of Economics, studied action seekers to glean insight into investor behaviors. Among the "risky" behavioral attributes they felt might influence investment philosophy were reckless driving, risky sexual behavior, frequent career changes, drug and alcohol abuse, gambling and participation in potentially dangerous sports and leisure activities. The tendency for fast driving, as illustrated by speeding tickets, proved an insightful starting point for their research. The researchers turned to Finland for their study, choosing that country for two primary reasons. To start with, there is a sizable and measurable penalty for driving too fast. In that country, severe violations bring fines related to income. Speeding-ticket data could be matched and cross-referenced with tax and income data as well as the battery of psychological tests young men get upon being drafted for mandatory military service. Those who are sensation seekers (as measured by the number of speeding tickets received) and exhibit overconfidence (as measured by the psychological assessments) trade more and, in many cases, less effectively, they found. "Participation in the stock market is perceived to be financially risky, but in the absence of trading, lacks novelty and variety," the researchers wrote. "Gambling is also risky, but repeated gambling adds novelty and variety. A single bet may not be as satisfying to the sensation seeker as a series of smaller and distinct bets (even though the latter has less volatility). It is the novelty of the new stock in one's portfolio, or the change in one's position in a stock that provides consumptive utility to the sensation seeker. Because of this, a diversified portfolio can be as stimulating to the sensation seeker as a nondiversified portfolio. However, a stale portfolio is not as exciting as a fresh one." The researchers admit that their particular study fails to fully factor in female behavior, in great part because of the lack of military data. They do, however, cite other studies finding that men are typically more prone to sensation seeking and a self-inflated sense of ego. When it comes to gambling, for instance, men often gravitate toward action-oriented games such as blackjack and craps, while women frequently enjoy more passive gaming with slot machines and keno (though there are, of course, many exceptions to such a broad brushstroke). The findings jibe with what Dick Van Dyke, registered investment adviser and founder of Dick Van Dyke Financial in Springfield, Ill., has seen with clients over the years. "We often get husbands and wives who are at odds and, more often than not, it is the wife who is taking the conservative posture and the husband that has taken risks throughout his life and has a tendency to want to still go for it," he says. "That's where they get into trouble with investing. They don't see it as a well thought out methodology. They see it as more of a hunch or knee-jerk reaction. They fall into the trap of thinking that change means a solution and whenever something happens they are reactionary to it." Aggressive, "Type A" personalities are often looking for a big score, rather than time-tested strategies for the long haul, Van Dyke says. "When it comes to investing and picking companies, they tend to do it more off of a gambling perspective more than a well thought out strategy," he says. Such an approach is very problematic the closer an investor gets to retirement, Van Dyke says. "This is a time in their life when they need to be much more conservative," he says. "We tend to work off what we refer to as a 'gain and retain' type strategy. When you get someone who is still in that Type A mode, they're trying to make up for lost time. They will take on even more risk sometimes at that stage in life, because they feel that they have to accomplish something in a short period of time. Usually, it is disastrous." Sensation seekers may be their own worst enemy when it comes to investing, but with the right situation they can flourish in the business world. In a new research paper -- Cleared for Takeoff? CEO Personal Risk-Taking and Corporate Policies -- finance professors Matthew Cain of Notre Dame's Mendoza College of Business and Stephen McKeon from the University of Oregon tried to find common traits among the personalities of successful CEOs. To do so, they identified a risky hobby that many of them share -- piloting their own aircraft. Using an FAA database, they determined which CEOs flew their own jets and whether being in control of a personal aircraft correlated to being effective corporate leaders. For the study, they drew upon the Sensation Seeking Scale developed by psychologist Marvin Zuckerman in the 1970s. It included a "Thrill and Adventure Seeking" component that measured a preference for activities such as piloting, surfing, skiing, skydiving, scuba diving and mountain climbing. "CEO pilot-led firms are more likely to engage in mergers and acquisitions, have more debt in their capital structure -- meaning higher leverage and greater overall stock return volatility," Cain says. "Pilot CEOs tend to complete acquisitions that are more successful than those completed by non-thrill seeking CEOs. Their creativity and novelty-seeking characteristics lead them into deals that improve the growth prospects of their firms." Cain says risk-loving CEOs tend to exhibit above-average creativity. "Their intelligence flows out in a creative way," he says. "They are able to make quick decisions for their firms and take them into new directions. When they see an opportunity, they seize it. That's what differentiates great CEOs from the more average CEOs." Cain stresses that such a personality trait doesn't necessarily guarantee success. "The sensation seekers who create the most value for their companies tend to be in ones that are sort of low-growth companies and need new growth opportunities," he says. "If you get somebody into a company or firm that doesn't need new opportunities, and are already coming along very well, they might shake things up too much. Another concern is if they have overconfidence, a hubris bias. They think they can do no wrong, so they are just going all out, all the time. They see opportunities that aren't actually there because they have too much faith in themselves." -- Written by Joe Mont in Boston. >To contact the writer of this article, click here: Joe Mont.