Phil Rosenzweig’s “The Halo Effect”: Book Review, Notes + Analysis

Poor Ash’s Almanack > Book Reviews > Business / Finance

Overall Rating: ★★★★★★ (6/7) (standout for its category)

Per-Hour Learning Potential / Utility: ★★★★★★ (6/7)

Readability: ★★★★★★ (6/7)

Challenge Level: 2/5 (Easy) | 174 Pages  ex-notes (288 official)

Blurb/Description: do you want a fun, uplifting story about the three simple steps your business needs to take to earn unlimited profits and undying glory?  You do? Great! You’re delusional six ways to Sunday and sorely in need of Phil Rosenzweig’s The Halo Effect.

Summary: This is an extremely powerful book, if somewhat provocative… Rosenzweig makes the case that a substantial portion of business journalism and literature is nothing more than mystical “cargo cult science” (referring to the tropical islanders who used coconut shells as masks at landing strips, hoping they could hasten the arrival of planes bearing valuable cargo.)  Rosenzweig methodically dismantles popular business media coverage of high-profile companies, moving on to supposedly rigorous management tomes by high-priced gurus like Tom Peters and Jim Collins. Rosenzweig covers a number of important concepts, ranging from correlation vs. causation to ourstorytelling tendency to the importance of recognizing complexity and counterfactuals.

Highlights: See above, and detailed notes below – in an astonishingly short and digestible book (less than 200 pages), Rosenzweig delivers a compelling, well-written and well-researched counterpoint that I think is critically important for any serious investor or businessperson (as well as, perhaps, decision-makers in any field – government comes to mind.)

Lowlights: Rosenzweig spends perhaps a little too much time beating up on Jim Collins (it’s almost like he has a personal vendetta) – and even though the book is actually pretty short, it’s still one of those where “you get the point” pretty quickly and then some of the additional examples and analysis in individual sections (particularly once he starts delving into the work of Peters, Collins, etc) can seem repetitive.

Additionally, Rosenzweig doesn’t really adhere to the “bring me a solution, not a problem” management paradigm – he spends the majority of the book engaged in a (thorough and convincing) takedown of what he deems to be the generally un-rigorous, story-over-substance nature of much of popular business literature, but offers only a few tepid suggestions for what to do instead.

For all his rigor, Rosenzweig spends a little too much time talking about stock prices/performance as a barometer of company success or failure.  He does note the issue of day-zero valuations and uses other metrics like “operating profit as a percentage of total assets,” but I think he could have used better metrics (or at least presented them a bit more thoroughly) – nonetheless, this doesn’t invalidate the truth of what he’s saying.

Finally, I think Rosenzweig is a little harsh on storytelling and case studies in general – I believe (at least from my personal experience) that there’s more benefit from it, even if not conducted in an academically rigorous fashion, than he admits.

Mental Model / ART Thinking Points: social proofstatus quo biasrationalityprobabilistic thinkingsample sizestorytellingprocess vs. outcomecorrelation vs. causationrelative vs. absolute skillzero-sum games, utilitysalienceluck vs. skill, a/b testing

You should buy a copy of The Halo Effect if: you are a businessperson or investor who ever consumes news or literature – this is critical reading for critical thinking.

Reading Tips: Pursuant to what’s discussed in Lowlights, if you feel like you “get the point” of a particular section, feel free to skim / skip ahead to the next section.

Pairs Well With:

The Signal and the Noise by Nate Silver (SigN review + notes) – a thoughtful book by Five Thirty Eight’s founder about how to do what it says on the tin: differentiate the “signal” from the “noise.”

The Success Equation by Michael Mauboussin (TSE review + notesncise book addressing issues like sample size and decision-making under uncertainty.

Jordan Ellenberg’s How Not To Be Wrong (HNW review + notes) is another book that covers similar ground, at more length.

Chasing Stars by Boris Groysberg (CSG review) – I have some trouble with Groysberg’s methodology, but overall it gets to a similar endpoint as The Halo Effect and is worth reading if you want another book (perhaps for a future point in time) to think about the topic.

Reread Value: 4/5 (High)

More Detailed Notes + Analysis (SPOILERS BELOW):

IMPORTANT: the below commentary DOES NOT SUBSTITUTE for READING THE BOOK.  Full stop. This commentary is NOT a comprehensive summary of the lessons of the book, or intended to be comprehensive.  It was primarily created for my own personal reference.

Much of the below will be utterly incomprehensible if you have not read the book, or if you do not have the book on hand to reference.  Even if it was comprehensive, you would be depriving yourself of the vast majority of the learning opportunity by only reading the “Cliff Notes.”  Do so at your own peril.

I provide these notes and analysis for five use cases.  First, they may help you decide which books you should put on your shelf, based on a quick review of some of the ideas discussed.  

Second, as I discuss in the memory mental model, time-delayed re-encoding strengthens memory, and notes can also serve as a “cue” to enhance recall.  However, taking notes is a time consuming process that many busy students and professionals opt out of, so hopefully these notes can serve as a starting point to which you can append your own thoughts, marginalia, insights, etc.

Third, perhaps most importantly of all, I contextualize authors’ points with points from other books that either serve to strengthen, or weaken, the arguments made.  I also point out how specific examples tie in to specific mental models, which you are encouraged to read, thereby enriching your understanding and accelerating your learning.  Combining two and three, I recommend that you read these notes while the book’s still fresh in your mind – after a few days, perhaps.

Fourth, they will hopefully serve as a “discovery mechanism” for further related reading.

Fifth and finally, they will hopefully serve as an index for you to return to at a future point in time, to identify sections of the book worth rereading to help you better address current challenges and opportunities in your life – or to reinterpret and reimagine elements of the book in a light you didn’t see previously because you weren’t familiar with all the other models or books discussed in the third use case.

The premise of Rosenzweig’s book is to uncover the darker side of books or articles profiling great businesses or people.  His objective, in his own words:

“The point isn’t to make managers smarter.  The business world is full of people who are plenty smart – clever, quick of mind, and conversant in current management concepts.  

In short supply are managers who are wise – by which I mean discerning, reflective, and able to judge what’s correct and what’s wrong.  I’d like this book to help managers become wiser: more discerning, more appropriately skeptical, and less vulnerable to simplistic formulas and quick-fix remedies.”

Kind of a great quote on mental models.  He goes on to note that there is:

“a tendency by managers and professors alike to embrace simple answers, some of them patently simpleminded and wrongheaded, and to latch on to quick solutions rather than to question and think for themselves.”

This is driven, of course, by social proof and  status quo bias.  Rosenzweig is a classic Howard Marks second-level thinker:

“most management books ask the first-order question: What leads to high performance?  This book sets out to answer a different question: why is it so hard to understand high performance?”

He starts off with a discussion of the financial results of Lego.  At the time, Lego’s financial results were struggling, as were the results of peer companies, although the media focused on Lego-specific explanations, claiming that they had “strayed from their core” (a sentiment even management echoed) via licensing deals such as Harry Potter legos.  

This is dubious, because A) I loved Harry Potter Legos in elementary and middle school (my parents’ credit cards still have the scars to prove it, I think) and B) as Rosenzweig points out, if adapting building blocks to the tastes of modern children isn’t within Lego’s core, then what is?  

But demand fuels supply of silly explanations.  Rosenzweig on  storytelling:

“We don’t want to read just that Lego’s sales were sharply down; we want an explanation of what happened.  It can’t just have been bad luck  – there must have been some reason why a proud company… suddenly did so badly.”  

One of Rosenzweig’s consistent themes is that we’re not rational so much as rationalizing – we’re not content to say “I don’t know” – we want explanations… he cites the humorous example of daily market movements:

“Maria Bartiromo can’t exactly look into the camera and say that the Dow is down half a percent today because of random Brownian motion.”

Rosenzweig poses the interesting counterfactual – what if Lego hadn’t hopped on the hottest trend in forever?  (Harry Potter was HUGE at the time.) Reviewing analyst reports which call for Lego to somehow simultaneously maintain the wow factor and yet stick to its knitting, he makes a baseball analogy that I’ll paraphrase into a football analogy: imagine an unhelpful defensive coordinator telling his team don’t give up the 50-yard go, but also don’t let them drive their way down the field with 5-yard draws and underneath dink-and-dunks…

A similar, albeit briefer, discussion can be found in Michael Mauboussin’s “ The Success Equation ( TSE review + notes), and Mauboussin’s “two-jar” metaphor is, in my view, extremely helpful for visualizing what’s going on here.

He extends the line of proof with discussions of popular news coverage of celebrated companies such as Cisco and ABB.  On the way up, Cisco was lauded for “staying ahead of trends” and a uniquely effective M&A program, but on the way down, Cisco was just terrible – a “binge buyer” who had strayed from focusing on the customer.  

A similar story unfolded at ABB; its CEO was lauded as Europe’s “Jack Welch” and praised as uniquely intelligent, driven, insightful, and humble with superb communication skills… until, of course, he was all of a sudden an arrogant, out-of-touch leader with no strategic vision.  

Similarly, the supposedly action-centric corporate culture and new-age, mega-efficiently-decentralized matrix structure (which everyone loved on the way up) was supposedly the cause of poor coordination, dysfunctional competition, and a hopelessly redundant and complex jumble of disparate back-office systems.

Obviously, each of these viewpoints is extreme and likely overreaching; Rosenzweig’s point is that only the occasional article as measured and thoughtful – the majority were either bandwagon fans or bashers.  

This is where he introduces the term Halo Effect – coined by Edward Thorndike, psychologist, during WWI – regarding the way in which officers would make inferences about specific traits on basis of a general impression – soldiers with neat uniforms also shoot straighter.   ( Association bias.)

In more modern times, examples cited include popular perception of Bush’s handling of the economy, which rose after 9/11 and fell after Katrina, notwithstanding that neither of those crises or their responses had much to do with Bush’s economic policy.  

Similarly, the scores for individual ranking categories on Fortune’s “most admired” ratings were more correlated than they should have been, and were strongly related to recent financials. (Amusingly, just today a friend sent me one of those sorts of rankings, from the MIT Technology review no less, which listed Nvidia at #1 (notwithstanding that it basically did nothing but be a bystanding beneficiary of having some useful technology for the blockchain explosion) and had other inconceivable rankings like Snapchat right next to Salesforce.)

Indeed, this effect has been confirmed experimentally – Rosenzweig cites a study in which participants are asked to perform some group task (ex. estimate future earnings of a company) and then are randomly assigned a rating of either “good” or “bad” (which has nothing to do with their actual performance).

The ones who know they did well will cite that they did well on communication, motivation, cohesion, etc – yet the ones who are told they did badly will cite the opposite.  Of course, Rosenzweig points out that this doesn’t mean that such factors are unimportant to group success, but rather that our ex post facto perception of them is heavily shaded by the outcome.  

In other words, in investment terms, a flyer that pays off was a “smart risk,” while a reasonable risk-reward that just goes wrong for pure dumb luck was a “careless gamble” – what Rosenzweig is advocating is focusing on process vs. outcome

The Halo Effect as applied to business:

“so many of the things that we – managers, journalists, professors, and consultants – commonly think contribute to company performance are often attributions based on performance.”  

correlation vs. causation.  (i.e. observers often mix up direction of causality… for example, given that growth and profitability cover a lot of flaws, employees at companies that are doing well are often more satisfied than when things aren’t going well – so which causes which?)

He goes on to expound on various delusions and errors while analyzing a number of popular management tomes, like In Search of ExcellenceBuilt to Last, and Good to Great.  Some of his thoughts: people often make the mistake of single factor error, where they fail to look for cross-correlations – multiple factors may explain the same thing and therefore be a representation of some underlying causal factor.

One of the biggest problems with storytelling is what Rosenzweig calls the “delusion of connecting the winning dots” – i.e., if you select some sample specifically of companies that have done well, and then discover that they all have, say, a focus on the customer, you fail to learn anything, because it may well be that these companies’ focus on the customer is actually less strong than a bunch of other companies out there that totally ignored the customer.  (I’m riffing here – he didn’t say that literally – but that’s the general point.)

He also points out the ephemerality of corporate success and points out that even McKinsey says that over the long term, “El Dorado doesn’t exist” – if you take a longer term view rather than a short point-in-time retrospective view, the “great’ companies tend to be different ones over time… indeed, around the same time I was re-reading THE, I noticed this bit in a recent Marks memo titled There They Go Again… Again:

Another thing he points out is the necessity of evaluating relative rather than absolute performance – for example, K-Mart didn’t go bankrupt because its business was horrible… in fact, they made much progress during the 1990s on issues like inventory turns and customer experience… unfortunately, Wal-Mart and Target just got much better much faster.

He especially despises Good to Great and spends a lot of time (perhaps a bit too much) bashing it.

He notes that good science doesn’t always translate to a good story: often the correct research conclusion is a weak effect where A might lead to 5% better performance on B metric with a decent level of confidence ( probabilistic thinking) – but that doesn’t make for fun news reporting.  See also Jordan Ellenberg in How Not To Be Wrong (HNW review + notes) on the replication problem, and Philip Tetlock in Superforecasting (SF review + notes) on the sexiness of confidence.

Rosenzweig isn’t totally bearish on stories, though; he does say:

“the test of a good story is not whether it is entirely, fully, scientifically accurate – by definition it won’t be.  Rather, the test of a good story is whether it leads us toward valuable insights, if it inspires us toward helpful action, at least most of the time.”  

Stories, of course, are useful (see the  salience mental model, among others).  Rosenzweig himself is a fan of Richard Feynman, quoting/referencing him several times.

Rosenzweig does a good job dismantling existing management theory, but doesn’t do such a great job building it back up.  He does have a few suggestions: first, “grab the right end of the stick” – analyze the data the right way (don’t confuse correlation with causality and understand which way causality flows).  Second, although somewhat obvious, he suggests managers should focus on specific things vs platitudes like “execute better.”

There are a few more worthwhile quotes and observations.  He cites one:

“The margin between success and failure is often very narrow, and never quite as distinct or as enduring as it appears at a distance.”  – Tom Lester – Financial Times

(my notes get jumbled here so I may be going out of order) Rosenzweig follows up on  luck vs. skill

By extension, to recognize that good decisions don’t always lead to favorable outcomes, that unfavorable outcomes are not always the result of mistakes, and therefore to resist the natural tendency to make attributions based solely on outcomes.  

And finally, to acknowledge that luck often plays a role in company success. Successful companies aren’t ‘just lucky’ – high performance is not purely random – but good fortune does play a role, and sometimes a pivotal one.”

Can management be scientific?  Yes and no – A/B testing, as Wal-Mart and Amazon have done, is pretty scientific… but there’s often not enough sample size for big, strategic things (like mega mergers or the development of an industry and so on).  That said, Rosenzweig believes there is plenty of room between two extremes – we can study things and come to conclusions, but need to be careful not to fall for stories that are easy but incorrect.

One of Rosenzweig’s other prescriptions is probabilistic thinking and  process vs. outcome: he cites former Goldman risk arb guy Robert Rubin as an example:

“If even a large and painful loss doesn’t necessarily mean a bad decision, then what does?  To answer that question, we have to get beyond the halo effect. We have to take a close look at the decision process itself, setting aside the eventual outcome.  

Had the right information been gathered, or had some important data been overlooked? Were the assumptions reasonable, or had they been flawed? Were calculations accurate, or had there been errors?  Had the full set of eventualities been identified and their impact estimated? Had Goldman Sachs’ overall risk portfolio been properly considered?

This sort of rigorous analysis, with outcomes separated from inputs, isn’t natural to many people.  It requires an extra mental step, judging actions on their merits rather than simply making ex post facto attributions, be they favorable or unfavorable. It may not be an easy task, but it’s essential.”

He mentions Andy Grove’s “paranoia” and constant improvement, and further cites the example of Logitech, which repeatedly “killed the golden goose that brought eggs more quickly than the market would have.”  (Ironically, on a variety of metrics, it’s not at all clear that the publication date of the book wasn’t near Logitech’s peak as a company…)

First Read: 2014

Last Read: summer 2017

Number of Times Read: 3


Review Date: summer 2017

Notes Date: summer 2017