Yesterday the USWNT advanced to the finals of the World Cup after the heroics of Goalie Alyssa Naeher in saving a penalty kick late in the match against England.  Imagine being inside the head of a goalkeeper facing a penalty kick.  Your job is to be the last one, standing alone, against an uncontested opponent.  Now imagine your best bet, according to science, is to do nothing.  Don’t move. From a goalie’s perspective, the odds are that by standing still in the middle of the goal they have the greatest chance of blocking a shot.  This is because even when they guess correctly on which way to dive, they still only block less than 30% of the shots.

Why does the goalie not stand still all of the time? Expectations play a large part. Place yourself in the position of the raving soccer fan who watches that goalie stand still while the ball is artfully smashed into the corner of the net by the shooter.  You wouldn’t care about odds, you would look for effort from the Goalie, right? This is action bias at play. In the pivotal moment, just do something because even if it is the wrong thing, at least you tried.  Goalies try to take the information available and make informed decisions, knowing that they have to balance expectations of the crowd and team with outcomes.

This brings us to the investing parallels.  Much like a goalie having to justify action, a stock picker or market timer is constantly trying to justify their role by creating a perception of activity.  There is urge for someone to do something, anything, when we see a bit of news, or the markets are at a high (or a low).  We might be convinced that some action by ourselves or an all-knowing guru will give us the advantage and we will make more money than we would have otherwise. It just isn’t true, and that is why passive indexing has flourished, coincidentally, as science has shown us that buy and holding at a low cost (doing nothing) can improve our odds of success over trying to actively time the market. It is the investing equivalent of not diving for the sake of diving.

An important distinction here: This approach does not mean we win every time.  We can guess right, and still not have a perfect outcome.  It means we place the odds in our favor over the long term.  That’s the key to investing success.  Admittedly, staring down a penalty kick takes place in a singular moment.  The wrong choice on the world stage could be catastrophic, hence the need to make bold moves.  We don’t need to make bold moves as investors. Since we can take the long view, we are free to make good, incremental decisions that sometimes amount to doing nothing. We have the luxury of standing still, not guessing, not diving, and letting the ball come to us.

Thinking in Bets by Annie Duke.  Sometimes the stock market has been referred to as a “casino”.  As investors, then, who better to learn from than a champion poker player like Ms. Duke?  Truthfully she has written a very well-researched book on the role of skill and chance in determining any outcome.  A career at the poker table taught her that we all make decisions in gambling and life with incomplete information. Sometimes the outcomes are in our favor and sometimes not, but we need to recognize the difference between good results based on luck and bad results that can occur for even the most skilled practitioners. 

In my favorite section of the book, Duke discusses how we often fall into the trap of being 100% certain that something is either right or wrong, when frequently the odds are somewhere in the middle.  When there is nothing on the line, being that certain about anything has no consequences.  If, on the other hand, someone challenges our opinion with “Wanna bet?”, suddenly we are compelled to decide how much we are willing to wager on our beliefs.  This is very relevant to investing because with each decision we are deciding how much of our capital we are willing to commit with certainty to an outcome.  If we are honest with ourselves, we know that our skill in predication is always limited by the role of chance.  Duke contends that thinking in bets forces us to consider our biases, appreciate what we know and what we don’t, and make better decisions. 

Take it from someone whose palms sweat during penny poker, this is a book for thinkers and investors, the gambling is incidental.

Contact Dennis

Important Disclosures