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Understanding Domains and Their Role in Portfolio Management

In the previous blog post titled Mastering Portfolio Management: Understanding the 7 Interdependent Elements, we explored the complexities of portfolio management and highlighted the importance of understanding the interconnectivity and influence of different components of the portfolio management process. Those components include decision objects, decision domains, decision menu, time, structure, humans, and rules.

This blog post delves deeper into the concept of domains in portfolio management and their critical role in investment organization and management. The three domains, namely market, demand, and production, represent distinct decision rooms with different stakeholders and challenges. The focus should be on answering fundamental questions, improving the investment process, and achieving agility. The model presented emphasizes a multidimensional and dynamic approach to portfolio management that challenges traditional linear approaches and encourages portfolio managers to rethink their portfolio management frameworks.

In portfolio management, the market, demand, and production domains play a critical role in the investment process.  The market domain includes competition, partners, and customers, while the demand domain comprises business and investment opportunities. The production domain encompasses investments, funds, and resources.

Figure 1- Decision Domains & Objects

These domains represent three distinct decision rooms, each requiring a different set of decisions to optimize portfolio management. However, difficulties arise both within and between the decision rooms.  Between the rooms, one of the main difficulties is that each room has different stakeholders. Business owners are in the market room, while those responsible for development and production are in the production room. The demand room is the most critical, with business owners, portfolios, project managers, and production personnel working together.

Figure 2 depicts the interactions between the rooms

Inside each decision room there are various challenges. Firstly, decision-makers aim to find the truth. However, uncertainty and bias often cloud the analysis, resulting in several potential “truths.” Secondly, decision-makers are limited by a lack of imagination and confirmation bias, only seeking data that supports their beliefs, and rejecting data that contradicts them.

Thirdly, decision-making is constrained by influencers who may impose their decisions and political noise from various business units who believe they are entitled and must be satisfied. Fourthly, decision choices are restricted by mandatory choices and constrained trade-off options. Finally, experts’ versions of the truth are influenced by their uneven experience, skill, and biases, and nobody can be an expert on everything to connect all the data and see the whole picture.

Unfortunately, the focus in these decision rooms is not on answering fundamental questions such as, “What do I want to achieve?”, “How do we get there?” or “Do we have the capacity?”. Instead of improving the investment process to address reality, decision-makers alter their perception of reality to fit their flawed processes. In the end, the external reality aligns with their political power, but only because they forced reality to do so.

Portfolio management requires both versatility and simplicity, yet analysts often fail to appreciate the various challenges involved. Moreover, decision-making crosses organizational boundaries and always has a political dimension where certain judgments may carry more weight. Ultimately, executives have the responsibility and privilege of making decisions and will not easily relinquish that to models and analysts. Decision-making requires cognitive skills – including learning, analyzing, communicating, and understanding human emotions.