The parallels between Formula One and investing

Please note: Barclays Private Bank does not endorse any of the companies or individuals referenced in this article.

Formula One (F1) is the pinnacle of motorsport. It is the highest class of international racing for open-wheel, single-seater formula racing cars, and the FIA Formula One World Championship has been one of the premier forms of racing around the world since its inaugural season in 1950.

As you might expect, the annual cost of running an F1 team runs into the hundreds of millions of dollars.  

In recent seasons, a cost cap has been introduced to control expenditure and to level the playing field between teams. At the time of writing, the spending cap for 2023 is $135 million¹, and with each position in the championship standings worth many millions of dollars, it means that every single point counts over the season.

Fine margins

F1 is all about fine margins. Lap times are measured to thousandths of a second, and just a few tenths of a second typically decide car positions for race starts.

Therefore, teams are continuously looking to boost the performance of the car, driver and team, because marginal, but continuous, time improvements can have significant impacts over the course of a racing season.

Technical engineering excellence is required alongside excellent race strategy, which means teams regularly assess the best strategy in what can be fast-changing, high-pressured circumstances. And this is where we arguably see parallels with investing.

Smart decision-making is key

Many of the principles needed to build a car that can win races across different types of circuit apply to building an investment portfolio that can perform well across different market conditions.

While all F1 teams target speed, it’s not the only factor at play. During the course of a season, their cars will be taken to different tracks with different characteristics, and so a range of factors need to be considered; for example, top speed and handling in corners, as well as coping strategies for when variables (of which there are many) change quickly and often in a random fashion.

Similarly in investing, a well-built portfolio holds several types of asset class, as well as exposures to a range of sectors and regions. While some asset classes will perform well in some conditions, they may perform poorly in others. By holding a mix of asset classes, a portfolio therefore has an improved chance of delivering consistent, positive returns across market cycles. 

Optimising performance

While the base concept for an F1 car will be designed and  constructed well before the start of each season, teams can make small changes and upgrades throughout, in order to optimise the performance of the car for each track. 

One example is changing the rear wing of the car due to differences in downforce at tracks. The rear wing helps the car to remain firmly planted on the tarmac and boost speed through corners.  However, the challenge is to do this in such a way that it doesn’t also result in too much aerodynamic drag, which will slow a car when racing in a straight line.

Likewise in investing, managers of a portfolio regularly make tactical tweaks to it, in order to optimise risk and return in response to short-term events. In the same way that an F1 team has a base car that they just tweak for races, a competent investment manager will have a core strategic asset allocation which is designed for the long term, and will then augment that with small tactical tweaks (a tactical asset allocation). 

In both F1 and investing, a team with a solid process will trust their core package is the right one for the long term, and so is unlikely to make dramatic changes due to short-term changes in the landscape. 

Decision-making processes and biases

Another parallel between successful F1 teams and successful investors arguably lies in attention to detail, quick decision-making and an unwavering commitment to excellence.

Everything in racing is quantified and analysed for maximum results. An example is a pit stop, where races are frequently won and lost. In just a few seconds, a great number of actions (change of tyres, mechanical repairs, adjustments to the wings and many more) are carried out by teams’ pit crews. They are one of the most intense features of a race, and therefore every aspect of a pit stop needs to be carefully planned and practiced hundreds of times before a race.

On the investing front, having plans and processes is important due to our psychological and emotional pulls while investing. Investing can often feel like an emotional ride, especially when markets are booming or experiencing selloffs, and this can exacerbate our biases and so how we react.

A behavioural bias is a systematic deviation from rationality. Biases can creep into and impair decision-making, leading to actions that are not in one’s long-term interest, and drag on returns.

For example, losses and the prospect of them can have an outsized (adverse) impact on our decision-making. In addition, our natural aversion to losses can induce us to make decisions to stem losses in the short term that may not be in our long-term interest, such as selling out at the bottom of a downturn or cutting risk exposure, despite having sufficient liquidity to see it through.

In periods of stress, investors’ time horizons can feel shortened, possibly increasing the perceived riskiness of investing, which at a minimum can increase anxiety levels. It is when markets look most precarious that our behavioural proclivities can lead us astray.

As humans, we usually behave and react to these types of market events in fairly systematic ways. Building a decision-making process that is systematic and is built around identified biases might help to reduce their impact. Delegating decision-making to experts with tried and tested processes, and good track records, may also be advisable. For the successful F1 team, delegation and trust is a must due to the complexity and speed of decision-making required.

Technical regulations changes

Each year F1 teams will design a new car, taking into account updated technical and safety requirements from the F1 regulator, the FIA. Most of the time they will build upon the design of the previous year’s car, but every few years there are significant changes required due to the technical regulations. Many of these regulatory tweaks are designed to make races more exciting by creating closer racing between cars. 

While it can improve the competitiveness, such changes can also turn the fate of teams on its head. Those dominant in the past may find themselves struggling in the new era, while their previously less competitive rivals challenge for the prizes.

We saw this occur last season, with the Mercedes car becoming less competitive after dominating the sport and winning the constructors’ title for much of the prior decade, including a run of eight successive championships. Meanwhile, Aston Martin, which finished seventh out of 10 teams in 2022, is third so far this season. 

During periods of underperformance, it is important for teams to keep focused on their longer-term performance targets and ensure they are not overreacting when conditions change as this may harm them later.

Similarly in investing, it is important to recognise that there will be periods of underperformance, and that this is part and parcel of the journey. If there is a robust process in place, then it is important not to make drastic changes to portfolios or to the investment team, but to have the composure to ride out stormy times. 

Start with the end goal in mind 

Whether racing or investing, a good first step is to clarify where you ultimately want to get to because having clear objectives can make the journey more successful. For investors, this transparency can make it easier to align investment decisions to objectives and to reduce the chances of accidentally making unwise investments. 

Having a plan can be particularly useful in keeping you anchored during difficult market conditions, when investing may be tougher emotionally.

Sometimes in investing, an effective plan of action is simply to reduce action. From a behavioural perspective, doing less is more for the long-term investor. For example, attempting to time the market introduces additional biases and risk into the decision-making process, and can be a costly, futile endeavour. 

An approach more akin to that of an F1 team may be sensible; for example, having pre-agreed action plans based on different market scenarios, establishing rules to deploy capital based on market levels, or agreeing phasing schedules based on time periods (such as phasing in on the first of the month over a six-month period).

In pursuit of performance 

As I mentioned earlier, F1 is all about fine margins. Performance improvements, which might be marginal on their own, can have a significant impact over the course of a racing season. There are similarities with successful investing, where skilful people seek high performance and can stay calm under pressure.

Over time, marginal gains can compound and result in significant capital growth within a portfolio’s holdings. There will be market jitters and bumps along the way, but the focus should always remain on delivering strong and sustainable returns over the long term.

This communication is general in nature and provided for information/educational purposes only. It does not take into account any specific investment objectives, the financial situation or particular needs of any particular person. It not intended for distribution, publication, or use in any jurisdiction where such distribution, publication, or use would be unlawful, nor is it aimed at any person or entity to whom it would be unlawful for them to access.

This communication has been prepared by Barclays Private Bank (Barclays) and references to Barclays includes any entity within the Barclays group of companies.

This communication:

(I) is not research nor a product of the Barclays Research department. Any views expressed in these materials may differ from those of the Barclays Research department. All opinions and estimates are given as of the date of the materials and are subject to change. Barclays is not obliged to inform recipients of these materials of any change to such opinions or estimates;

(ii) is not an offer, an invitation or a recommendation to enter into any product or service and does not constitute a solicitation to buy or sell securities, investment advice or a personal recommendation;

(iii) is confidential and no part may be reproduced, distributed or transmitted without the prior written permission of Barclays; and

(iv) has not been reviewed or approved by any regulatory authority.

Any past or simulated past performance including back-testing, modelling or scenario analysis, or future projections contained in this communication is no indication as to future performance. No representation is made as to the accuracy of the assumptions made in this communication, or completeness of, any modelling, scenario analysis or back-testing. The value of any investment may also fluctuate as a result of market changes.

Where information in this communication has been obtained from third party sources, we believe those sources to be reliable but we do not guarantee the information’s accuracy and you should note that it may be incomplete or condensed.

Neither Barclays nor any of its directors, officers, employees, representatives or agents, accepts any liability whatsoever for any direct, indirect or consequential losses (in contract, tort or otherwise) arising from the use of this communication or its contents or reliance on the information contained herein, except to the extent this would be prohibited by law or regulation.