Unfortunately, this approach carries an inherent problem, illustrated by the famous example of black swans as stated by philosopher John Stuart Mill: “No amount of observations of white swans can allow the inference that all swans are white, but the observation of a single black swan is sufficient to refute that conclusion”. Thus from seeing hundreds of white swans, we might infer (mistakenly) that all swans are white. The basis of all empirical science is a process called induction: we infer things about the nature of the world based on our observations.

We often mistake luck and randomness for skill and determinism. Often their short-lived success was due to the fact that they simply happened to be at the right place at the right time, i.e. Wall Street has seen many traders, who after years of success have one devastating quarter where they lose everything in one huge blow-up. Of course, in the long run, the randomness that sustains these “ acute successful randomness fools” will turn against them. They would boast flawless track records and enjoy praise for their exceptional skills. Nevertheless, despite their lack of skills, after 5 years based on probabilities alone we can expect almost 200 of them to have been profitable every year.

In other words, you would basically be better off investing based on the flip of a coin.

In fact, it is very likely that some will.Ĭonsider for example a cohort of 10,000 investors who, for the sake of argument, are relatively incompetent: each year they only have a 45% chance of being profitable. Unfortunately, the inherent randomness of stock markets means that, just like millions of monkeys hammering on typewriters for long enough can eventually produce Shakespeare, so can unskilled investors produce great track records. In some professions, one simply cannot succeed without skills: A plumber or a dentist is extremely unlikely to have a long career without knowing what he’s doing. Nowhere is this discrepancy more evident than in the stock market, where “capable investor” should usually be substituted with “lucky idiot”. We use terms like “skills”, and “determinism” when “luck” and “randomness” are called for. We are all frequently fooled by randomness, meaning that we underestimate the impact of luck and random events on our lives.

Fooled by randomness review