You Can’t Judge An Action By The Result

2009 September 11
by Kyle Bumpus
from → Commentary

There’s an old saying, “you can’t argue with results.”  Bollocks.  Of course you can.  It is not uncommon for wise decisions to result in failure and poor decisions to result in wild success.  Why?  Randomness.

The concept of random outcomes is difficult for the human brain to internalize, especially as it pertains to one’s own performance.  Who wants to believe their success in live was largely due to good luck as opposed to superior intelligence and hard work?  That said, the concept isn’t too terribly foreign.  The last time you failed at something, which statement most closely matches your response:  “things just didn’t go my way this time” or “I failed because I am lazy and/or not good enough?”  Be honest.

An Example:  Russian Roulette

To solidify the idea that you can’t judge an action by the result, I’ll present an example culled from Nassim Taleb’s stellar Fooled by Randomness: The Hidden Role of Chance in Life and in the Markets (an excellent primer on the philosophy of randomness).  Say you are invited to play a game or Russian Roulette for a sum of $10 million.  The revolver has six chambers, one of which contains a life round.  Thus, you have a 5 in 6 chance of winning $10 million and a 1 in 6 chances of biting the dust.  Would you take the bet?

Say you take the bet and, true to odds, you luck out and win the $10 million prize.  A dozen years from now, your neighbor in an upscale suburban neighborhood (full of doctors, lawyers, and successful entrepreneurs of course) asks you how you achieved all your success, expecting to hear about all your hard work and savvy investment strategy.  What do you think his reaction will be when you tell him you won it all in a game of Russian Roulette?  If your neighbor is a rational human being, you can bet it won’t be “congratulations on the success of your brilliant wealth-building strategy!”  More likely, he’ll awkwardly struggle to conceal his shock and mumble something about your being a psychotic fool under his breath.

Clearly, playing Russian Roulette is not a wise course of action no matter the result.  You’ll most likely end up rich, but there’s also a decent chance you’ll end up dead, which leads us to an important corollary:  it doesn’t matter how high are the odds of success if the consequence of failure is too much to bear.

It Isn’t Courage If You Don’t Know The Odds Are Against You

Nobody in their right mind would judge our fictitious millionaire as having made a wise decision because his success was due largely to chance.  Why, then, do we praise investors who undertake risky hail-mary trading strategies and happen to win big?  Sure, gambling is fun but the source of success, blind luck, is exactly the same as with Russian Roulette.

Why do we praise one and shun another?  Because the trader is held to be “courageous” while the Russian Roulette player is simply considered a fool.  Thing is, the trader likely had absolutely no idea how steep were the odds stacked against him.  The trader probably thought he had some sort of advantage (he didn’t), possibly backed up by complicated, seemingly clever higher mathematics.  Since the trader probably thinks the odds are in his favor, is he really all that courageous?  He has no idea how high the odds are he could lose everything!  The Russian Roulette player, on the other hands, knows exactly what the odds are and is well aware of the consequences of losing.  Looked at this way, which really deserves your praise?

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One Response
  1. 2009 September 11

    I find this topic fascinating in that people seem able to grasp it in some instances yet unable to grasp it in other instances (and both within the realm of personal finance).

    For example, people understand that it wasn’t a waste to pay for life insurance last year even if they didn’t happen to die.

    But at the same time, people deem their 401(k) contributions to have been a waste just because they’ve declined in value.

    Particularly interesting is that, at the end of it, the life insurance premium has no value, while the 401(k) contributions still have some value.

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