My Sunday Washington Post Business Section column is out. This morning, we look at the lies we all tell to ourselves as investors.

Here’s an excerpt from the column:

“Every year I hear from a small segment of active traders who misread what the discussion is about, seeing it as an invitation to brag about their best trades. Astonishingly, these e-mailers have all significantly outperformed the markets over the years, putting up fantastic return numbers. They never seem to have a losing trade. They sold Apple at exactly $705 and bought gold precisely at the bottom. Even more amazingly, they got out at the market top in October 2007 and bought in at the exact lows in March 2009.

The polite term for these people is “fibbers.” Personally, I say it’s lying.

Mathematical probabilities make these claims of uniformly spectacular track records extremely unlikely. And what I find most intriguing is that these Pinocchio traders (as I call them) are not really lying to you or me, but, rather, to themselves.”

How exactly do investors lie to themselves? Here are just 8 ways I discuss in the column:

1. You know what your investment returns are
2. You can predict the future.
3. You know how costs, fees and taxes impact your returns.
4. You can pick fund managers.
5. You understand mean reversion.
6. You have a plan.
7. You can pick stocks.
8. You are saving enough for retirement.

What are you lying to yourself about?


Pinocchio traders with fantastic returns are lying to themselves
Barry Ritholtz,
Washington Post February 23 2013  http://www.washingtonpost.com/business/pinocchio-traders-with-fantastic-returns-are-lying-to-themselves/2013/02/22/d46b14d0-7aea-11e2-9a75-dab0201670da_story.html

Category: Apprenticed Investor, Investing, Psychology

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

8 Responses to “Pinocchio Investors: How Investors Lie to Themselves”

  1. Doug of North Texas says:

    Lying about what? Probably all of the above. I am good at bottoms, but not on picking tops – trying to get better timing (usually out too early). I work in the ETF world assisted by 30 blogs and stockcharts.com membership. I appreciate Barry and his guests and keep links to all those “investment advice from old pros (e.g., Bob Farrell)”.

    I think the game of bridge helps – you look for what is being said and not being said for future guidance.

  2. farmera1 says:

    Coming down pretty hard on the unwashed masses, aren’t we??

    As I was asked when I once made a presentation to some tough upper management types: You are either stupid or you are lying. Which is it???? My answer was probably a little of both. They laughed, a little bit.

    Since no one wants to comment and suffer the stigma of lying, I’ll give a little feed back.

    1.) No but I’ve got net worth numbers going back to 1980. All in nice spread sheets, all very detailed and all compared to projected returns based on history (gotten from a very good book). To me net worth was much more important than investment returns. That’s just me.

    2.) Of course I can, I’m just not right most of the time.

    3.) Not really in detail. But I’ve always been a compulsive saver and investor and very “tight”. That’s the main reason I’ve used Vanguard for decades. And yes I used to blow out theoretical returns with different costs. Helped stay away from greedy funds.

    4.) I can pick fund managers, just not winners consistently. That’s why Vanguard and etfs are a major part of my holdings. Forbes used to do a good job with funds, rating them in both up and down markets.
    Forbes no longer publishes their mutual fund data.

    5.) Sure I do. So what.

    6.) Well not so much anymore, I’m post accumulation. I’m retired and into the spending phase of life. And yes I had an asset allocation plan (from a very good book) with historical returns from different asset allocations, and risk for each (risk being defined in the book as variation).

    7.) Not really, although BRK has worked out pretty well long term. It’s a game, the thrill of the hunt, it’s more of a hobby picking stocks. Lot’s of stocks I bought didn’t work, but I had pretty good discipline in selling the dogs.

    8.) Sure did. Invested wisely (even if you believe it to be impossible) , and have sufficient funds. My approach always was if an investment adviser said I needed X to retire, I always shot for 2X, just to cover things like inflation, the world ending, stupid advisers that used some canned program they bought God knows where, that sort of thing. Worked out pretty well.

    So in your mind I’m either a lier or stupid. So be it.


    BR: I thought the full article made clear that we are wired this way, that it is a cognitive, not ethical issue. I should have made that clearer in the intro . . . We are ALL Pinocchio traders

  3. Melvis says:

    Lying to yourself can actually have some benefits. Believing we are more talented or intelligent than we really are can help us influence and win over others. I remember a teacher telling my mom once that I was not as intelligent as I thought I was. I choose to believe that this teacher was an idiot. By blocking out negative thoughts and taking an optimistic view of my abilities I started several successful businesses that should not have worked but did.

  4. [...] Pinocchio Investors: How Investors Lie to Themselves (The Big Picture) [...]

  5. Theravadin says:

    Good article, Barry.

    One of the big reasons we not only lie to ourselves, but believe our own lies, is that we are evolutionarily wired to see patterns… which is to say, we inherently don’t understand chance. So we make money a few times, mostly because of luck, and decide we’re really good at this. We’ve seen a pattern, which confirms our natural belief in ourselves. Those who have the opposite experience tend to drop out… even though they may be no worse than the winners.

    I see this lack of understanding of chance all the time even in scientific papers – too many scientists trust statistics naively… which is to say, they don’t look at their results to see if there might be an obvious reason why their results actually are out in that 5% tail.

    Once we (think) we’ve seen a pattern, we’re wired to keep seeing the pattern… and discounting evidence which doesn’t support it.

  6. 873450 says:

    Donald Trump

  7. Hantra says:

    Hey BR, I’m curious about the following:

    >>I am constantly astonished at how few people actually have any sort of long-term plan other than throwing some money into a 401(k) or IRA and hoping for the best.

    >>Most investors are better off owning a set of broad indexes for their main retirement accounts.

    Isn’t that kinda the same thing? I mean, I am that guy who is throwing money in and hoping for the best. I have a good idea of what kind of percentages I want in what kinds of funds, but that’s about it. What else can the average investor do in terms of a plan?

  8. gregory barton says:

    1. You know what your investment returns are

    This is interesting. I wonder how many investors/traders calculate their total portfolio daily change, YTD percentage change, annual change on previous year, multi-year returns, and compare these returns to a benchmark?

    2. You can predict the future.

    This is a straw man argument. The self-deception is in the degree not the fact.
    [BR: Wrong.Its imagining you have any skill in this area at all]

    3. You know how costs, fees and taxes impact your returns.

    Easy if you look only at net returns.

    4. You can pick fund managers.

    Easy if you reject them all.

    5. You understand mean reversion.

    I doubt that most punters even consider reversion to the mean, let alone deceive themselves about it. Where would the S&P500 be now if it had reverted to the 50-year mean? Any guesses?

    6. You have a plan.

    Vague. “You have a plan that will beat your benchmark and will achieve your goals’.

    7. You can pick stocks.

    Ditto: “You can pick stocks with returns better than your benchmark”. Go to question 1.

    8. You are saving enough for retirement.

    9. You are investing, whereas in fact you are trading.

    10. You believe your success is due to skill, not luck.