May 26, 2016

Why Investors Shouldn't be Fooled by The Success Mantras of Super-Investors?

One of the inferences that can be drawn from the the book "Fooled by Randomness: The Hidden Role of Chance in Life and in the Markets" by Nassim Nicholas Taleb is this:

If there are N investors who put their money in the market at a given period in time, n1 of them (n1 = x1 * N, where x1 is very close to 0) would end up as great investors in that period.

Also n2 of n1 (n2 = x2 * n1, where x2 is ever further closer to 0 as compared to x1) would end up as great investors across multiple periods and hence turn out to be super-investors eventually.

The n1 who end up as great investors and the n2 who turn out to be super-investors eventually may be as a result of not merely their skill but probably in equal measure as a result of the law of probability.

The above would mean that there has to be some people who will eventually become a Warren Buffet or a Philip Fisher or a Peter Lynch or a Bill Ackman.

The success of above people shouldn't be seen as anything unusual and surprising. Some n2 people had to turn out to be super-investors eventually and the above happens to be their names.

Once names are attached to those who are part of the n2, then their success is dissected and analyzed and codified into success mantras - rules, theories and concepts - that supposedly helped these investors turn out to be super-investors.

However, the success mantras of the n2 super-investors will probably be different from one another.

Not only that the success mantra of a super-investor will also perhaps be different across multiple time periods.

What that would mean is that there is no single success mantra that worked for all super-investors through all periods with same level of success consistently.

And hence, the success mantras that have worked in the past may not necessarily work even in the next period with 100% certainty.

Forget about the period next to that and the one after that!

Here's something worth taking a closer look at:

"This year's top-performing mutual funds aren't necessarily going to be next year's best performers.

It’s not uncommon for a fund to have better-than-average performance one year and mediocre or below-average performance the following year.

That's why the SEC requires funds to tell investors that a fund's past performance does not necessarily predict future results."

(Source: https://www.sec.gov/answers/mperf.htm)

The statement "past performance does not necessarily predict future results" or something similar is a common but very important statement which is often used as a legal disclaimer by investment firms and yet generally ignored by most who invest money with such firms.

What applies to mutual funds and investment firms applies equally well to the n2 and even the n1 investors - past performance does not necessarily predict future results.

So for any investor it is important not to be fooled by the success mantras of the super-investors (as also the great investors) and hence not to try to directly emulate them.

It is certainly a good idea to study and analyze the various success mantras that have worked in the past but not be blinded by them.

It is definitely very useful to learn key lessons from all this study and analysis.

In the end, however, every investor has to find her own success mantra.

If an investor follows her tried and tested success mantras and turns out to be a super-investor it would be great.

However, it should not be forgotten that this could again be a result of not merely the skill but probably in equal measure as a result of the law of probability.

It is easy to be fooled by randomness and ignore the hidden role of chance in life and in the market!

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