Nassem Taleb might have the best way in existence to explain the difference between book smarts and practical, sometimes called "street" smarts. It’s from his book Anti-Fragile. I’m paraphrasing, but he asks a question about coin flips.
He says: “Imagine I have flipped a fair coin fifty times and it turns up heads all fifty. I flip the coin a fifty-first time. What are the odds that it comes up heads?”
A book smart person will be quick to say 50%. They’ll excitedly explain that an individual probability is not affected by historical data. The fifty flips essentially don’t matter to the coin.
But a street smart person will say: almost 100%. If a coin comes up heads fifty times in a row, why would you believe it’s fair? They’ll go on to say that anyone who thinks it’s 50% is a book-smart sucker. In reality, the chances of flipping fifty heads in a row is, while not impossible, then at least infinitesimally small. What’s more likely: that you got lucky, or that something is up with your coin? “Hmm…maybe it’s not a fair coin after all,” the book smart person will relent.
I like to think of investing as a coin that comes up heads maybe 7 out of 10 times. A given flip could go either way, but over the long-term, over hundreds of flips, the odds are strongly in favor of heads.
This is my rebuttal when someone tells me that investing is a glorified form of gambling. For a given day, or week, they’re right. The short-term movements seem frighteningly random and without purpose. But when investing year over year for the long term, a different picture emerges.
In the stock market, it’s not a fair coin, and that’s a good thing.
So think of the stock market as a coin that comes up heads 7 times out of 10. Now granted, any given time you flip the coin, it could still very well land on tails. Last year was a tail flip for me and many others. This year might be as well. I just have to console myself that this isn’t a 50/50 proposition. Each year I flip the coin, I’m much more likely to make money than lose it.
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