Fortune and Risk

fortunaAccording to Roman mythology, Fortuna was the goddess of luck. She used to be represented with her eyes covered and one of her characteristics was to be capricious. Although it covered both spectra of luck, good or bad, it was commonly associated with the good.

Nowadays, this word can be used as a synonym of a high net worth, eg. “Jeff Bezos’s fortune amounts to 164 billion dollars”, reinforcing the positive association of randomness.

Previously, I have commented on the biases that the Behavioral Economy has managed to identify, by leaning heavily on psychology, and today I would like to delve into the “Self-Attribution Bias”

WHAT IS THE SELF-ATTRIBUTION BIAS?

It is the tendency to exalt our abilities as the cause of our successes, and to attribute our failures to external factors. With the particularity that, in case of analyzing the performance of a third party, we would observe luck as an agent of its success and its capacity, or lack of it, as responsible for its errors.

In the world of finance, we have emphasized that returns are closely related to risk. And that performance, as in many disciplines, comes from a combination of skill and luck.

We will understand then the risk of not evaluating objectively and correctly the participation of luck and skill in our results.

To be clear, there is nothing wrong with receiving a help of fate, or chance, but if we believe that success will always be on our side, we could ignore a cornerstone, risk control.

On one occasion, Aswath Damodaran commented that while playing Monopoly with his daughters, one of them gave an excellent definition of bankruptcy:

Bankruptcy: “you don’t get to play anymore”.

monopoly

And this is where the worst of luck cannot be designated as the culprit of bankruptcy, proper risk control is the responsibility of the strategist. Being exposed to an event that could take us out of the game for good will always be attributable to the investor’s lack of ability, or diligence. Hence, overstating our own skill, or downplaying chance, could translate into a significant risk while investing.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s

This site uses Akismet to reduce spam. Learn how your comment data is processed.