Never Confuse a Lucky Break With Smart Investing
Huge one-time windfalls get a lot more attention than routine wins and losses.
Bloomberg, March 25, 2019
What can we learn from the case of someone who turned $100,000 in short-dated call options into a $2.5 million profit?
As detailed in MarketWatch earlier this month, trader Steve Oliverez was pretty sure the Republican tax overhaul was going to be approved by Congress. Working with a data set of one — the 1987 tax overhaul — he correctly surmised that passage would be bullish for stocks.
His gamble paid off. Oliverez took his winnings, bought a new house with cash and took the rest of the year off to celebrate, traveling throughout the U.S., Southeast Asia and Japan. Who wouldn’t want to buy a new home and travel the world for a year? One trade, a huge return — time to open that options-trading account and get in on the winnings.
Investors need to beware of how highlighting one person’s one winning trade is an invitation to trouble — and losing money. Focusing on a single outcome versus a repeatable process raises more questions than it answers, including:
— Are these trade results statistically significant?
— Was this trade the result of luck or skill?
— What is the long-term track record of this approach?
— Is it a repeatable strategy?
Poker champion Annie Duke notes that professional card players call the focus on what just occurred “resulting.” In her book “Thinking in Bets: Making Smarter Decisions When You Don’t Have All the Facts,” she explains the problem with this approach. “Resulting” assumes “the quality of the outcome tells you about the quality of the decision-making.” It doesn’t.
Looking at a single big winning trade suffers from this same error . . . continues here
I originally published this at Bloomberg, March 25, 2019. All of my Bloomberg columns can be found here and here.