Commentary | Feb 05, 2020

Good Bets, Bad Bets, Winning Bets, Losing Bets

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Most people think there are two kinds of bets: good bets and bad bets. If you win, it’s because you made a good bet and if you lose it’s because you made a bad bet – the quality of a decision is determined by its results. The notion that the outcome of a decision is the sole determinant of its efficacy is not logical in situations where luck or randomness play a part and in which you can’t completely control the results.

According to legendary investor Larry Hite, there are four kinds of bets: good bets, bad bets, winning bets, and losing bets. Whereas winning and losing bets refer to the outcome, good and bad bets represent the odds. According to Hite, good bets involve an accurate assessment of risk and reward and have favourable odds. Conversely, bad bets entail unacceptable risk and have unfavourable odds. Under certain circumstances, good bets can be losers and bad bets can be winners. In these situations, you can’t judge the quality of a decision by its outcome. The best decision maker isn’t necessarily the one with the most success, and the worst decision-maker isn’t always the least successful.

Luck vs. Skill: It Depends on the Situation

There are occasions when success or failure is purely dependent on luck. For example, in roulette, there is no such thing as skill. It is a game of pure chance which is entirely based on random events that are completely out of players’ control. At the opposite end of the spectrum, there are settings in which results are entirely driven by skill. In chess, for instance, there’s no such thing as luck. Victory or defeat is completely dependent on your skill vs. that of your opponent.

When Both Luck and Skill Matter: Blackjack and Investing

Finally, there are circumstances under which both luck and skill are influential. In blackjack, the remaining cards in the deck are determined by which cards have already been dealt. Players who can keep track of the cards that have been dealt know something (although not everything) about the cards that will appear. This doesn’t mean that skilled card counters are guaranteed to win. They cannot control which cards are played and can still be foiled by bad luck. It simply means that they are better than less talented players at calculating the odds and have a better chance of victory.

Investing is like blackjack. In the same way that even the most skilled blackjack players are not guaranteed to make money, it is not certain that skilled investors will always achieve the best results. In blackjack, expert card counters calculate the odds and adjust their bets accordingly to improve their chances of making money. Similarly, in financial markets skilled investors are those who can best assess future risk and reward and adjust their portfolios to maximize their probability of producing superior results.

Time: Skill’s Friend and Luck’s Enemy

In areas where both luck and skill affect results, both factors can impact short-term results. Over the course of a few hands of blackjack, the winnings or losses of skilled and unskilled players may not be noticeably different. However, over the course of hundreds or thousands of hands, skill tends to dominate luck, and a skilled gambler will almost certainly outperform an amateur.

Similarly, luck can play a prominent part in determining investors’ performance over the course of days, months, or even years. Yet, as with blackjack, the role of skill will dominate that of chance as time passes. Over the long-term, those investors who have the best investment process will produce superior results.

We believe that a better process leads to better outcomes. The Outcome strategies rely entirely on data analysis, machine learning and pattern recognition to measure both risk and reward to develop investment models that can deliver superior results over the long-term. This approach has produced strong risk-adjusted returns since our inception. We firmly believe that this will continue to be the case over the long-term.

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