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The Illusion of Control

| May 27, 2015
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You know the old expression about ‘winning the battle but not the war’?  I think that all of the husbands out there know it all too well.  I have a trophy case stocked with hardware from meaningless and insignificant ‘wins’ over the years.  These wins felt good at the time, but it didn’t take long for me to realize who was really in charge and what really just happened.  I’ve accepted it at this point and take comfort in knowing that the husbands of America are by and large in the same boat.  I don’t play sports anymore, but I guess I’m still on a team.   I was walking by a couple of ladies the other day and here is what I heard:

                  Alice:  But didn’t you say that you wanted to paint that wall blue? 

                  Brenda:  I did and I do.

                  Alice:  Then why are you going to give Joe (husband) the choice of khaki or green?

Brenda:  I want him to think that I value his opinion and that he has some type of say in this matter.  It makes him feel more important.  You ought to see the terrible look on his face when he ‘feels important’ (both laughing and clinking glasses of chardonnay).  That said, the wall will be blue and it’s going to look great!

Poor Joe, the game is already over and he hasn’t even put on his uniform.  What’s he going to get for Christmas this year?  A nice tall glass of illusion of control.  Thanks Brenda!  At least he’ll feel like he had some input. 

How about this conversation that I have 5-7 times per week with my kids:

                  Me: Hey George, do you want broccoli or sugar snap peas for your veggie tonight?

                  George:  Sugar snap peas.

                  Me: Good choice, buddy.

I gave him a choice, and in doing so I created the Illusion of Control.  He feels like he has won the battle by choosing his vegetable but I win the war by having him eat a vegetable in the first place.

This concept of Illusion of Control is amusing in these examples, but can be devastating to investor portfolios.  Illusion of Control is a Behavioral Finance concept and it is basically defined as an investor believing that their personal odds of success are higher than statistics would otherwise warrant.  Examples?

·       A person flips a coin 10 times and correctly predicts 7 outcomes.  They then declare themselves a ‘superior guesser/predictor’.

·       A gambler blows on his/her dice before tossing at the craps table and attributes this process in recounting winnings.

·       A hard working employee in a successful/profitable unit of a company believes that their personal efforts and inside view of the company help to boost this company’s stock price.  The employee then proceeds to invest 100% of their 401k in the company’s stock.

·       Day traders believe that they have an ‘edge’ on the market due to all of the tools that they have access to through their online broker.

Studies have shown that lottery ticket winners that manually pick their own numbers are willing to pay more for their ticket than those that use a ‘quick pick’ number generator.  Why?  They feel like they have more control.  When looking at sequences of outcomes, if participants in an activity (heads/tails, investing in the stock market, etc.) see successful outcomes early and often, they tend to be more willing to bet/risk more as the game/activity goes on.  Why?  They feel that they are somehow contributing to, or ‘controlling’ a random outcome, when in reality they do not as it is merely a matter of statistics.

So why should you care?  I’ve written recently about the phenomenon of clients/investors not accepting the fact that their diversified portfolios have not been keeping up with the S&P 500 index over the past 5 years.  I also recently posted a blog post by Tim Higgins on the same subject.  Unfortunately, as clients see the S&P 500 index outperform year after year, they can’t help but think that it won’t end, quite similarly to the ‘superior guesser/coin flipper’ mentioned above.  The longer that this S&P 500 index winning streak goes, the greater the Illusion of Control will become for the average investor and the harder it will be for these people to objectively realize that it cannot continue forever.  Don’t believe me?  Talk to a gold or silver bug about metals prices now versus three years ago.  Talk to a former Naples Florida condo flipper that left the business after the bottom fell out.  Check in with anyone who had the majority of their money in tech stocks circa March of 2000.

I do my best to quote scholars and gentlemen whenever I have the chance, which is exactly why I’d like to share my favorite Mike Tyson quote.  Tyson was doing a pre-fight press conference at the peak of his ferocity.  A reporter asked him how he planned to deal with his well-prepared opponent. In discussing the opponent’s strategy, the reporter pointed out that he planned to do X, Y, and Z in the fight to take down Tyson.  Tyson simply said ‘everyone has a plan until they get punched in the mouth’.  Man, ain’t that the truth?  All of the people that I mentioned above (gold bug, condo flipper, tech stock buyer) all had a plan at the peak of their respective assets’ markets:  buy more gold, condos, tech stocks, etc.  It never occurred to them that the streak wouldn’t continue.  The Illusion of Control can do funny things to people, please don’t let those things happen to you.  Diversify your portfolio and please do not try to defeat the laws of statistics.  Oh, and when your wife asks you if you like green or khaki for the dining room wall, just say ‘oh, I don’t know.  What do you think?  You have such a better sense of style and color than I do.  I’ll just stick to watching games on t.v. and mowing the lawn.’  As goonish as that may sound, it’s the only way take back whatever shred of dignity and power that you think you might have.  Trust me.

By: Andrew Gonski

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

Investing involves risk including loss of principal. No strategy assures success or protects against loss. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.

The experiences described here may not be representative of any future experience of our clients, and should not be considered a recommendation of the advisor's services or abilities. Individual results will vary. Past performance is no guarantee of future results. 


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