Have we ever considered the role of luck in our portfolio returns? Have we been outperforming the markets because of successful stock picking or just riding the luck of a market rally? Similarly, have we been underperforming the markets due to poor stock decisions or just plain bad luck? Truth be told, it is hard to tell.
If we were to define luck, it is essentially something that is out of our control. If there is some aspect of controlling luck, we would call that skill. Looking at the professional poker players, none of the top 5 WSOP bracelet winners would be there based on luck. For example, Phil Hellmuth, the top professional poker player, has won 14 WSOP bracelets and appeared at the final table 54 times. If it were to be down to luck, there would be randomness and we would not see the same faces year after year.
Luck and Investing
With the similar logic as the poker analogy, one could argue that fund managers with a superior long-term track records (e.g. Warren Buffett, Peter Cundill, Howard Marks, etc.) can attribute their success to skill.
However, is that really possible?
Ask me this question when I started out investing, I would most likely agree that it was purely down to skill. Anyone achieving such superior performance over a long period of time must be due to skill I would say. Fast forward today, with a couple of years of investing experience under my belt, I would beg to differ. Over these years, I begin realising the role of luck in investing. While it was skill that led us to picking our stocks, what ultimately determines the price of the stocks reverting back to fair value? Analyst coverage? Market rally? Investors realising the value in the stock? The thing is that all these events occurring just depends on how lucky we are. It could take 10 years before it happens or just a matter of months.
Over the past year, Sui Chuan and myself have realised how lucky we have been on countless of occasions. Having liquidated our past holdings to be transferred into our private investment vehicle, we experienced slight obstacles in the process. This is because the banks took their time or administrative procedures took longer than expected. However, it was due to such delays were we able to avoid the crash in the markets we saw during the summer of 2015. Assuming there were no delays in the process, we already had the stocks we wanted in mind and would have purchased them all before the crash resulting in a poorer performance than what we have been reporting. Can we attribute it to a lack of skill? No. The stocks we identified were undervalued; however, we were just lucky that we managed to purchase them at cheaper valuations.
Hence, these investors with long-term superior track records is it solely due to skill? I would say no. While skill is required, there is definitely the element of luck involved.
Importance of Luck
Now, some may wonder if it is important to be lucky, after all it is more skill than luck when it comes down to achieving a superior performance. While that may be true, I tend to feel that understanding the element of luck humbles us as investors or even as a person. Realising that in many aspects of our lives, we are where we are or what we have achieved is partially due to luck has a humbling effect.
When you’re running or bicycling into the wind, you’re very aware of it. You just can’t wait till the course turns around and you’ve got the wind at your back. When that happens, you feel great. But then you forget about it very quickly—you’re just not aware of the wind at your back. And that’s just a fundamental feature of how our minds, and how the world, works. We’re just going to be more aware of those barriers than of the things that boost us along.
More often than not, people who have experienced success may perceive themselves as giants. They may overestimate their responsibility for their own success. While it is not wrong to take pride for it; however, it can easily lead to arrogance.
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