A Neat Trick (while it lasts)
Amen of the Week:
“You have to say no to your friends to say yes to your work… What are you going to do … lose that idea because you decide to have a drink with your friends?”
- Lin-Manuel Miranda, creator of the new Broadway hit “Hamilton” (Wall St. Journal, April 6, 2016)
A few weeks ago I spoke to a class at Columbia Business School. I gave a fun little demonstration of how our odds of success can be far different than we’d assume. I asked a student to name a card and proceeded to correctly name it. This wasn’t a magic trick. I honestly predicted her card correctly. But my odds weren’t 1 in 52. They were closer to 1 in 2. You can learn how in this 2-minute video excerpt …
The point that I was trying to communicate to the students is that our odds of success as investors are not necessarily what we might presume. There are roughly 2,500 liquid US stocks in which you can invest. However, the odds of one of these stocks being a successful investment are not evenly distributed. Yes, the market is highly efficient, but not perfectly so. Some stocks have historically proven to have had better odds of success than others. Small stocks, for example, have done better than large stocks, and low-expectation, or “value”, stocks have done better than high-expectation, or “growth”, stocks.
But we need to be careful. Just when we think we’ve found a strategy that tilts the odds in our favor, we might be naively adopting one that does just the opposite. Investing has a way of confounding the most logical of thinkers. Statisticians can make dangerous mistakes by extrapolating past patterns into the future. Human beings determine securities prices, and humans are … well … human. They’re not robots. Their behavior and nature can change over time. This is why Fielder remains a healthy skeptic regarding investment strategies that are overly-quantitative – especially those that seem to have done so much better for so long. Consider my magic card trick example in the video. Assume that this video goes viral. (Ha!) If it did, all students would know the two cards that I’d assume they’d pick. Next year if I were to give this same demonstration, my odds of correctly guessing a student’s card would be far less than 1 in 2. They might even be less than 1 in 52. This is why we want to avoid investing blindly in what worked well yesterday. Circumstances and human perceptions are constantly evolving. As a result, market prices – and hence our odds of success – are constantly evolving. May we thus remember to think ahead, not in the past.
Yours in the Field,
Frank Byrd, CFA
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