How to Make Sense of Weak Signals

  • Paul J.H. Schoemaker and George S. Day
  • April 01, 2009

There’s no sense in denying it: interpreting weak signals into useful decision making takes time and focus. These three stages can help you see the periphery—and act on it—much more clearly.

Image courtesy of Flickr user hitchster.

“When people stumble onto the truth they usually pick themselves up and hurry about their business.”—attributed to Winston Churchill

It’s the question everyone wants answered: Why did so many smart people miss the signs of the collapse of the subprime market? As early as 2001, there were many danger signals about the impending housing bubble and the rampant use of derivatives. Yet these signals were largely ignored by such financial players as Northern Rock, Countrywide, Bear Stearns, Lehman Brothers and Merrill Lynch until they all had to face the music harshly and abruptly. Some players were more prescient, however, and sensed as well as acted on the early warning signals. In 2003, investment guru Warren Buffett foresaw that complex derivatives would multiply and mutate until “some event makes their toxicity clear.” In 2002, he derided derivatives as financial weapons of mass destruction. Likewise, Edward Gramlich, a governor of the Federal Reserve, warned in 2001 about a new breed of lenders luring buyers with poor credit records into mortgages they could not afford.1

Some business leaders also noticed. Hedge-fund honcho John Paulson spotted “overvalued” credit markets in 2006 and made $15 billion in 2007 by shorting subprime. In July 2006, the chief U.S. economist at The Goldman Sachs Group Inc. warned that “nominal U.S. home prices may be headed for an outright decline in 2007. It would be the first decline in national home prices ever recorded, at least in nominal terms.” And in early 2007, his colleague further warned that “there are signals of a decrease in mortgage lending criteria and initial signals of financial troubles from subprime lenders.”2 Likewise, the board of the Dutch bank ABN AMRO Holding N.V. recognized the looming problems facing the banking sector, and sold itself. Shareholders did very well, collecting about $100 billion before it all fell apart, with Fortis SA/NV and others in the syndicate in ruin.3

The leading question

How can managers develop their peripheral vision to see what’s ahead more sharply?

  • Managers who can identify and minimize both their personal and organizational biases are less likely to get blindsided.
  • Catching and capturing distant threats and opportunities means applying different search methods—and looking for overlapping results.