This week we decided to have some fun by exploring our favorite eponymous laws, theories and principles and how they fit into the world of investing. This is a list I’ve been wanting to write for a while, at least since I discovered Sayre’s law two years ago. The fantastic thing about these observed laws is that they are based on real people’s experiences, cultivated over a lifetime of work and neatly packaged into digestible little aphorisms. Here is a list of our favorites, and how you can use them to your benefit:
Time Based Laws
Vierordt’s law, states that, retrospectively, “short” intervals of time tend to be overestimated, and “long” intervals of time tend to be underestimated.
The first investment principle that comes to mind is compounding. Compounding investment returns (reinvesting the earnings to produce more earnings) is a truly powerful force. By definition, it does very little in the short term. It pays the most in the long term and it only works when there is patience.
Hick’s law, in psychology, describes the time it takes for a person to make a decision as a function of the number of possible choices.
There are a near-infinite number of decisions to make in the investment world. Which investment? Which strategy? How much? When? Buy? Sell? Hold? Hick’s law is logarithmic, showing us that you save quite a bit of time and effort if you can reduce your number of options from 4 to 3, or 3 to 2, for example. At the other end of the curve, reducing your options from 100 to 98 does very little. There is an associated formula for those who are interested.
Of course, the ultimate decision time-saver is to hand the investment questions and challenges over to an advisor who will work on them for you.
Dollo’s law: “An organism is unable to return, even partially, to a previous stage already realized in the ranks of its ancestors.”
Simply put this law states that evolution is not reversible. I like Dollo’s law for investing specifically due to the tendency in our industry to over-rely on historical information, scenarios and trends. Past events evolved from complex inputs and conditions, unique to that time. Despite how similar it may seem, we will never return to an exact replica of the 1980’s investment environment of high rates, high inflation, the invention of the internet, etc. Time is linear rather than circular. The future will always bring a unique investment environment.
Betteridge’s law of headlines: “Any headline that ends in a question mark can be answered by the word ‘No.'”
Newspapers are for-profit entities with shareholders and bottom lines. Fear sells. So headlines are crafted to draw interest and emotion, even when the article is hypothetical fluff. When you use Betteridge’s law, you save yourself a click, plus time and brain space better spent elsewhere.
Campbell’s law: “The more any quantitative social indicator is used for social decision making, the more subject it will be to corruption pressures and the more apt it will be to distort and corrupt the social processes it is intended to monitor.”
Another way to say this is, “When a measure becomes a target, it ceases to be a good measure” (Goodhart’s law). This may be a useful heuristic to keep in mind when considering how a government or company may be justifying its decisions. It may be somewhat obscure for investing, but it’s a good skepticism muscle to keep active in case something doesn’t quite add up.
Cunningham’s law: “The best way to get the right answer on the Internet is not to ask a question, it’s to post the wrong answer.”
Just an interesting note on human behavior.
Benford’s law of controversy: “Passion is inversely proportional to the amount of real information available.” This is similar to Sayre’s law that says “In any dispute, the intensity of feeling is inversely proportional to the value of the stakes at issue.”
In an industry where people are perpetually hungry for more information, this can be a useful heuristic to keep in mind. When looking for answers during a conversation on investing, check the passion of the person delivering the information. Are their non-verbals signaling an intense desire to be “right?” Benford points out that if the information is there, there’s little reason to argue a particular position with extreme passion.
If you want to read more about Sayre’s Law, I wrote an article about it in 2017.
Papert’s principle: “Some of the most crucial steps in mental growth are based not simply on acquiring new skills, but on acquiring new administrative ways to use what one already knows.”
This is a great principle for busy people. Many clients hire us simply to save themselves the time and effort required to invest and manage their assets. The time and mental energy they gain can then be spent on their own businesses and families. Personal growth ensues.
Dunning–Kruger effect is a cognitive bias in which unskilled individuals suffer from illusory superiority, mistakenly rating their ability much higher than average. This bias is attributed to a metacognitive inability of the unskilled to recognize their mistakes.
The keywords for me here are: “the inability to recognize their mistakes.” In areas outside our primary expertise, we’re prone to mistakes and misjudgments, but often can’t even recognize when we’ve committed them. This is the danger of trying to be our own doctor, lawyer, architect or investment advisor. In investing, this bias can be expensive.
Progress and Optimism Laws
Amara’s Law “We tend to overestimate the effect of a technology in the short run and underestimate the effect in the long run.”
Named after Roy Amara, this law has a habit of trapping people in a pattern of “peak inflated expectations” and subsequent “trough of disillusionment.” People are impatient. They want to see greatness today, not years from now. Bitcoin was the most phenomenal new invention before it became largely distrusted. Cryptocurrency has gone through this cycle about three times over the past six years.
One of my favorite examples of Amara’s Law is when Paul Krugman wrote in 1998, “By 2005 or so, it will become clear that the Internet’s impact on the economy has been no greater than the fax machine’s.”
You can miss out on quite a lot when you fall into the trough of disillusionment. This is why we routinely say, “it pays to be an optimist.”
Littlewood’s law: “Individuals can expect miracles to happen to them, at the rate of about one per month.”
A lot can happen in a month’s time. Read more in the law’s link to see how Littlewood’s math works out.
Engelbart’s law: “The intrinsic rate of human performance is exponential.”
Our ability as a collective species to improve on improvements is just like compounding. It’s an exponential curve. Talented and passionate 15-year-olds today have access to cheap virtual servers and endless world-class coding resources. None of which existed 15 years ago. They can solve problems that were barely understood a generation ago. The innovation on innovation is remarkable. The results regularly show up in markets.
Maes–Garreau law: “Most favorable predictions about future technology will fall around latest possible date they can come true and still remain in the lifetime of the person making the prediction.”
Peter Thiel famously said that, “We were promised flying cars but all we got were 140 characters.” There is still time.
I ended the article with the positive and optimistic laws as a reminder. The threat of populism, corrupt government and human rights issues are very real. Despite the many challenges, we’re wired for progress and growth in spite of the odds that are stacked against us.