Winning the investing lottery šŸ’°

 

The Lottery, with its weekly pay-out of enormous prizes, was the one public event to which the proles paid serious attention.

Where the Lottery was concerned, even people who could barely read and write seemed capable of intricate calculations and staggering feats of memory.

There was a whole tribe of men who made their living simply by selling systems, forecasts, and lucky amulets.

: George Orwell, 1984

 

 

In last weeks newsletter I wrote:

 

In 40 years of market dataĀ the odds that your thematic basket managerĀ would string a 15 year track record of extraordinary performance (i.eĀ market beating)Ā is ~ 1 in 32,000. that isĀ 0.003%.

 

The takeaway wasĀ that theĀ 0.003% odds are soĀ minusculeĀ that you might as well invest in a low costĀ index instead of chasing hot new managers with hot new themes.

 

Not everyone bought it. But what about Warren Buffet, Peter Lynch andĀ so manyĀ otherĀ famous investors with unbelievable investments streaks they said. How could the odds be so low? They have to be higher, much higher. Part of it isĀ because peopleĀ want the odds to be higher for themselves, they want to achieve these outstanding investment returns.

 

Let’s lookĀ at theĀ lottery to see what we can learn about this situation above. Let’s say 10,000Ā people each buy one lotteryĀ ticket including you. It is straightforward that your odds of winning the lottery is 1 / 10,000. That is 0.01% The lottery will eventually have a winner, so the odds that someone will win the lottery is 100%.Ā We just don’t know who that person is. But because such people exist, they have to as someone willĀ win the lottery, would you think your odds of winning the lottery goes up?

 

It’s pretty much the same concept with investing.

 

 

Let’s go back to my example withĀ 40 years of market data and 8,000 thematic basket managers. Just like the lottery, the odds that after 40 years we will haveĀ one manager that had a 15 year investing streakĀ is 3/4 i.e 75%. Yup, that high!

 

OfĀ course, just as in a lottery we will have no way of knowing who the manager is and when the streak will start. But rest assured someone will win the investing jackpot too.

 

The basic confusion here is thatĀ the probability that an event will happen leads us toĀ overestimate the probability that the event will happen to us. The visible winners make the event more likely especially when the losers are hidden and out of sight. In lotteries, it is public knowledge about how many people played the lottery and who won, so calculating probabilities is easier. In investingĀ no one talks about losing portfolios making it seem like investing is easy and the probability of stupendous investing gains is something that can easily happen to us.

 

There are many investing lessons hidden in lotteries, but the most important one is encapsulated beautifully in this joke.

 

Every night, a man prays to God, “Please god, let me win the lottery tomorrow”. Years go by and the man continues to pray. Finally, one night heĀ says, “I am asking you for the last time God, let me win the lottery tomorrow”. AndĀ God replies, “Okay son, butĀ help me this timeĀ and buy a freaking ticket!”.

 

 

 

Happy investing,
Gaurav
CEO | kuvera.in
@rustapharian

 

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