Mathematicians began to intensely study the odds of winning and losing at cards at around the time Caravaggio painted his masterpiece, The Card Sharps (pictured).
They broadened their research across all forms of betting and, in the course of doing so, uncovered what has become known as the gambler’s fallacy. Here is another illustration of the fallacy in action.
If you have a ‘true’ coin and you flip it, the chance of heads or tails coming up is exactly 50 per cent. Now, suppose you flip it 21 times and it comes up heads each time, the odds of that happening are 1 in over 2 million; but then suppose that you flip it 20 times and get heads each time, what are the odds that the coin will come up heads on the 21st spin? The answer is 50 per cent (because a coin has no memory).
Yet most people would wager that after 20 spins with the same result, it must surely now be highly likely that it’s the time for tails to be favoured?
The answer is no, because that reasoning is mathematically fallacious.
What does this have to do with investing? Everything, because many an investor may assume that because the market as a whole – or a single share – has been rising that it must inevitably go into reverse; similarly, when the market eventually corrects (in regressing to the mean at some point, it will likely overshoot) then it would be smart to bet on it rising again because it’s how things ‘work’. Wrong.
This is the reasoning of a gambler, not an investor. The stock market is far more complex than either cards or coins; it certainly carries its own type of risks and rewards. However, risks can be mitigated by ensuring that whoever is managing them has done intensive research by constructing portfolios that sensitively reflect the mindset of the investor.
This is precisely what happens at Palmers. The team there comprises people high in both quality and integrity – they are extremely good at mathematics, too.
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