The Myth of the Casually Competent Investor

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“The greatest trick the Devil ever pulled was convincing the world he didn't exist.”

Verbal Kint, The Usual Suspects

Under certain circumstances, a myth becomes so embedded in the popular mindset that it transcends the illusion of truth and assumes the gravity of gospel. The capital markets at the heart of the American economy rely on just such a fallacy: The Myth of the Casually Competent Investor.

In most serious undertakings, the barriers to entry rise and fall with the complexity of the task. No one becomes an airline pilot merely by pinning a pair of plastic wings to his lapel. Nor is anyone permitted to perform an appendectomy simply because she had decided that morning that she was qualified to do so. And yet every day apparently intelligent people essentially declare themselves competent investors, as if the act of deciding somehow makes it true.

This pretense is facilitated in large part by an absence of impediments; we should all be thankful that it’s considerably harder to gain entry to an operating room or the cockpit of a 757 than it is to open a stock trading account. But accessibility alone does little to explain the eerie confidence with which so many people willingly attack their own net worth – especially when most already know that the vast majority of professional investors fail in the long run.1 Something is compelling these people to translate (1) almost certain odds of failure and (2) little experience, knowledge or training into… a high likelihood of success.

It would be convenient and even perhaps comforting to attribute this behavior to some perfect storm of human flaws. But even if we assume greed, arrogance, hope and/or stupidity in biblical proportions, it should take more to short-circuit our hard-wired instinct for financial self-preservation, shouldn’t it? The fact of the matter is that investors don’t recognize their own recklessness in part because they have been taught to perceive their weaknesses as strengths.

1. Long-run investment success (the only kind that matters) is defined as unlevered returns that exceed the S&P 500 Index over a multi-decade period by a margin sufficient to justify the additional risk assumed.