Now Dr. Elise Payzan Le Nestour is about to begin her professorship in Finance at The Australian School of Business but she has graciously taken the time to summarize the findings from her recent research.

“(My) research shows that under certain conditions, investors can cope with the instability encountered in financial markets very well. Specifically, they can seize arbitrage opportunities in contexts where a hitherto-good asset can become very bad all of a sudden — this is what financial economists call “regime shifts.” In such labile contexts, investors would do well to detect the shifts. As it turns out, people can do that very well, despite the complexity of the enterprise.

Such capacity is however very fragile: investors need to be aware of the phenomenon of shifts for them to detect the shifts. When they are initially naive to the phenomenon (because nobody alerted then about its occurrence), learning vanishes: people don’t perceive the unstable assets as unstable, and their learning becomes delusional. This is because our mental models assume stationarity: we a priori think that things have a permanent value; the thought that things are unstable is not natural to us.

The key insight of this research is therefore that investors can be extremely efficient decision makers, albeit not “naturally”. It is critical that they build awareness about the nature of uncertainty in their environment in a first stage. This is a very positive message, which contrasts with standard behavioral finance which says people are stupid.”

We love her work ( here and at TP) because it has something very important to say – if you are on the lookout for uncertainty (which we try to teach all of our clients HOW to be) – you have a much better of chance of more accurate perceptions of change. Her research game was all about detecting change – and really, in our opinion, that is what risk management should focus on. In reality, many people tend to do the opposite – keep looking for “the same”.