Monday, December 22, 2008

Found a Reliable Analyst? Think Again

Been reading Fooled by Randomness by Nicholas Nassim Taleb and I particularly loved this example given by him to show how we can be fooled by randomness. Here it goes:

Imagine receiving an email from a certain person who claims that the market will go up in the next month due to certain reasons. You ignore it. Lo and behold! That month, the market does go up. think.

The next month, you receive another email from the same person telling you that the market for that month will end down due to some reasons which you could not bother reading. True enough, the market closes lower for that month.

Again in the next month, you receive another sombre email from the very same person who "forecasts" that the market will go down. The same thing happens. That person is right again! This goes on for a few more months. At the end of it, you can't resist it but invest a sizeable portion of your money with this person who seems to be able to forecast the market accurately for several months only to end up losing a large portion of your investment.

So how does this trick work? Simple..

The person first emails 1000 people. He emails 500 of them his bullish views while emailing the remaining 500 his bearish views for the market. At the end of that month, if the market is up, he emails the initial 500 people who will actually believe his predictions. This time he emails 250 of them his bullish views for that month and the remaining 250 his bearish views. As each month goes by, he just takes the half that will still believe in his predictions and carries on the process.

End of the day, there will be a group of people who will believe that this person is a financial guru and would invest a large portion of their money with him.

See how easy it is to be fooled by randomness?

No comments:

Related Posts Plugin for WordPress, Blogger...

My Blog List