Have you ever struggled with a financial decision? If you’re like most people, I suspect that the math wasn’t the hard part. What makes financial decisions a challenge, more often than not, is the subjective element. Financial decisions involve lots of variables—your future income, interest rates, housing prices, tax rates, and more. We can make reasonable forecasts, but ultimately these decisions require judgment calls in the absence of complete information. No doubt, this can be unnerving. In her 2018 book, Thinking in Bets, retired poker champion Annie Duke offers these strategies to help make better decisions in situations like this:
Never be too sure
As a poker player, Duke knows the importance of subtle cues. For that reason, she has a number of recommendations on how to communicate better. For example, whenever you’re discussing a financial question—whether it’s with your spouse, a business partner, a lawyer or a financial advisor—avoid asking the question, “Are you sure?” While that seems like an innocuous question, Duke suggests this alternative: “How sure are you?” This accomplishes two things. First, it acknowledges the reality that there are very few absolute truths when it comes to financial decisions. Second, it allows for a healthier exchange of ideas. The question “are you sure?” puts the other person on the defensive. It’s a yes-or-no question and doesn’t allow someone to express a less-than-certain level of confidence without feeling defeated. But the alternative formulation, “how sure are you?” allows for a more open discussion, and that, in turn, may lead to a more well thought out decision.
How to apply this principle to your finances: When you’re making a financial decision, acknowledge that you can’t be 100% certain how something will turn out. Try to think in terms of a range of possible outcomes. Ask yourself what could go wrong, and try to quantify what that would mean to you. For example, if you expect an investment to return about 10%, ask yourself what would happen if instead it lost 10%, or more. Would that change your decision? Or might you take additional steps to protect yourself from that outcome? To be sure, you can’t protect yourself against every extreme scenario—a Great Depression-style 90% market crash, for example. But it’s reasonable, I think, to imagine a repeat of relatively recent events, such as the 10% inflation we saw in the 1970s or the 50% market declines we’ve seen twice in the past twenty years.
Among poker players, there is a phenomenon known as “resulting.” This occurs when players mistakenly assess their strategy in a game based on the outcome. For example, if a player wins, he might conclude that he played his hand well. While that seems logical, it’s a mistake because it overlooks the potential role of luck. It also overlooks the fact that other players might have played poorly. In other words, just because something turns out well doesn’t necessarily mean that you were following a good strategy. And just because something turns out poorly doesn’t necessarily mean you were following a bad strategy.
How to apply this principle to your finances: To avoid resulting when evaluating past decisions, keep a journal in which you document all of your major financial decisions. It doesn’t need to be fancy; just note the basic facts and your reasoning so you have it for future reference. This will enable you to review the results of your decisions without rewriting the facts in your mind to fit the outcome. You should also be careful of resulting when evaluating others’ decisions. If an investment manager delivers great results, don’t ascribe their success to skill alone. Instead, evaluate their strategy and ask how much was luck and how much was skill.