Monday, December 07, 2009

How to be a Millionaire... Not!

Every personal finance, business and self help shelf in your local book store is filled with books that offer to tell you the secrets of how to become [insert desirable attribute here]. Good to Great offers to unlock the secrets of how to build the next great company; The Millionaire Mind promises to teach you to think like a millionaire, and so on and so on. I would like to direct your attention to another book I recently finished reading, called The Black Swan. I must admit that The Black Swan is written in a rather annoying way, but it contains a number of highly valuable concepts and ideas. One such concept, "looking at the graveyard", does a lot to discredit a vast range of self-help and "instant insight" books.

To understand this concept, let's discuss a non-existent book whose ambition is to teach readers how to become rich by looking at millionaires and identifying the characteristics that all of these individuals share. Let's say the author does a great job of collecting and sorting through information and comes up with a list of three critical attributes shared by all of these individuals: frugality, education and generosity. One of the points Nassim Taleb makes in The Black Swan is that this information is insufficient to draw the conclusion that the way to become a millionaire is to be frugal, educated and generous. Why? Taleb explains that to validate your theory, you would need to look at the population of non-millionaires and make sure that it does not contain a large percentage of individuals who share the exact same attribute, i.e. look at the population of "failed experiments" that does not support your theory. Taleb points out that people rarely do this - for example in trying to identify what made a certain company successful they fail to look at all the companies who did the exact same thing and failed miserably...

That's not to say that in my example above frugality is not a worthwhile pursuit. All I am saying is that in that hypothetical experiment the data collected is not sufficient to draw the conclusion that if you are frugal you will become wealthy. There are plenty of frugal people who never become rich.

So what's Taleb's point? Unfortunately his conclusion is somewhat discouraging. His book is primarily about the role that luck plays in the outcome of the game of life. We all like to think that we control our destiny, but Taleb points out that the real control we exercise is very limited... a sobering thoughts.

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Rob Bennett said...

I certainly agree that we do not entirely control our destinies. But we have an influence. It seems to me that we should focus our energies on the stuff we influence and not pay too much attention to the luck stuff (which is outside the reach of our influence).

We shouldn't take credit for what is properly attributable to luck. There are lots of people who took credit for investing effectively during the huge bull. I think that was a mistake. Doing that leads you to believing things about investing that are not so. Luck is not skill.

The hard part is knowing what is due to skill and what is due to luck.


Edwin said...

Indeed luck does play a very big roll in peoples lives. Many rich people, including some of the richest in the world, are willing to admit that had they not been in the right place at the right time, they would not be where they are now.

Now of course you can't take that and just claim it's all pure luck. It's a combination of not only being in the right place at the right time but also having the right skill set to take advantage of where luck has placed you.

An example of this is that due purely to their age, recent college graduates will have far lower income over their lifetime based purely on the fact that they are entering the job market in a bad economy.

And as Rob Bennett pointed out (and it sounds like this book is about), you can't take the luck aspect and ignore anything else could make you think differently (and wrongly) about things.