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Not on outcome Michel Pireu     | Business Day Wednesday, March 6, 2019
“A good decision cannot guarantee a good outcome. All real decisions are made under uncertainty. A decision is therefore a bet, and evaluating it as good or not must depend on the stake and the odds, not on the outcome” - Ward Edwards

From Joe Wiggins at Behavioural Investment:

Our tendency to judge the quality of a decision by the ultimate consequence is a simple concept. In many instances it is also a prudent one; results often provide a useful gauge of the value of the actions that led to them. However, once you add a healthy dose of randomness things start to become problematic.

Financial markets are the perfect breeding ground for outcome bias – results are obvious and easy to obtain, whilst judging process and decision quality is incredibly difficult, which means we rely heavily on the former. We also grossly understate the sheer level of unpredictability, largely due to the wonders of hindsight bias and our susceptibility to a compelling narrative.

In reality, our faith in the information provided by any outcome, should be scaled by the amount of luck there is involved. In certain endeavours results provide a good measure of decision quality; in others we hugely exaggerate the importance of outcomes.

Despite the problems of using results as a barometer of decision quality, it remains endemic in investment. We take a difficult problem, simplify it (are results good or bad?) and then create a story to justify the outcome.

In an investment context it actually seems wrong to refer to outcome bias; rather we should talk about the outcome heuristic. That is we use outcomes as a mental shortcut to simplify a highly complex and inherently unpredictable task. The use of rules of thumb is smart and effective in some domains, using outcomes as a proxy for sound decision making in investment is anything but.
 
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