Behavioral finance FAQ / Glossary (Luck)

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Dates of related message(s) in the
Behavioral-Finance group (*):
Year/month, d: developed / discussed,
i: incidental

Luck, luck puzzle, luck vs. skill

02/10d - 04/9i - 08/05i,06d
- 09/2d + see survivor bias

Trying to explain why
the winner dodged the bullets and won.

Compatible with random walk?

The laws of probabilities allow for occasional long streaks of
above average positive outcomes.

Randomness doesn't mean full regularity, full alternation and
immediate regression
to the mean.

That might explain why some financial market players
(called "A players") constantly win more than they lose.

The puzzle is whether their performance can be attributed to

* pure luck

* or superior experience and ability.

Actually,  in the long run, it happens often that things go astray
after a lucky streak,

Players at ease with a kind of market situation (bullish or bearish 

phases) often do not adapt well when the situation changes.

One of the effects of luck is the temptation to go on 

betting on a recent favorable trend and to raise the ante ...until

People attribute to their own expertise a series of gains

they got by pure luck, and here also go on betting imprudently.

Luck or skill? Luckier or smarter?

The survivor bias (see that phrase) might explain why recurrent winners
get noticed and hailed as experts.

But they are often the same *very small* bunch of people who go
on, decades after decades, of course with some variations in the trajectory,
winning and accumulating fortunes.

Therefore we cannot discard that their performance, although some
luck might be involved, would results largely from their better
of market forces and a superior self-control.

Their knowledge of behavioral biases can help, but knowledge is
not enough
: discipline, work and talent are needed, this is a moral
tale ;-)

Anyway, time seems to make them better and better. That
would  be nice if all people evolve in such a way ;-)

The same goes for categories of players (C players) who seem to
be born losers, and repeat again and again similar
mistakes and failures.

Their behavior, although not easy to spot, is a good market

This can apply also to businesses that are highly successful or on the
contrary accumulate bad performances.
A "regression to the mean" tend to happen latter in many cases.

An open question is whether the fact that some people recurrently beat
the market shows

* That the market is inefficient?

* Or that those people as just more skillful, disciplined and efficient
   than other investors?

The side effect could be that, thanks to their moves, those smart
investors tend to offset the mistakes of the dumb ones and bring a
better market balance.

Well, another open question!

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This page last update: 07/09/15  

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