The role of luck in our success in the markets

I am a firm believer in the role of luck in our lives. I don’t overrate its importance like some people do, blaming everything that happens or does not happen to them to their luck, their stars, their fate etc. I think that is a cop-out, where people are ducking the responsibility of performance, which is often enhanced by the luck factor.

But leaving everything to luck is to abdicate responsibility for creating something that you desire in your life- like riches, success, fame etc. Each of this happens a lot by design and the progress towards the goal here is either accelerated or delayed by luck.

When it comes to the markets, a lot of people believe that it is all a play of luck. Michael Mauboussin, one of my all-time favourite authors, in his fantastic book Success Equation examines the role of luck and skill in the markets. I am fond of comparing trading and investing in markets with individual sport. I believe it is one of the closest analogies you can make for what happens in trading and investing.

Mauboussin has a table in his book where he places investing somewhere to the left of the scale (more luck) and in between betting on hockey and slot machines! Now, that really gives one a sense that investing success is mostly a function of luck. According to Mauboussin, a game like chess is all skill. Now that is undoubtedly true. But one level short of betting on slot machines? I am sure a lot of people who are serious at investing would just baulk at that idea of being told that they are almost gambling!

This is not to mean that something like roulette does not involve skills- it does. But it requires a huge number of iterations to prove its role. Similarly, there will be some luck involved in winning a chess game too but that is a very small proportion. In investing, Mauboussin writes, that where some luck is involved in deciding the outcome, a good process will ensure some consistent outcome and that too, over a longer period of time.

What does a long period of time provide? For starters, it gives us time to practice and polish our skills. As we keep doing that we get better – meaning, we make lesser mistakes. So what time really does is to help us absorb the losses created. Then it allows the market cycles of intermediate and long-term nature to play out.

Our thinking may be short term but by allowing for time for the trade to come through, we are now taking advantage of the main market cycle to play out. This helps to boost the gains. Third, by creating a process that we work over a longer period of time, we also gradually reduce the level of engagement with the market. This too has a beneficial impact on the final bottom line. The more you transact, the more risk you run. So by giving time to your trades and investments to come through, you automatically reduce one of the risks.

Thus a process is the right way to get luck on our side. But the process necessarily has to run over a longer period of time. This can also be understood as a short term process (such as day trading) can also improve the results provided you look at the results over a longer period of time. This would require one to be consistent with the trading methodology and not change it every few days!

So, create the process, work it diligently and see luck start working in your favour!

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