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Charlie Munger on The Psychology of Human Misjudgment

February 9, 2015 Leave a comment

25iq

“…the brain should be using the simple probability mathematics of Fermat and Pascal applied to all reasonably obtainable and correctly weighted items of information that are of value in predicting outcomes…”  Charlie Munger  http://www.rbcpa.com/Mungerspeech_june_95.pdf

To cope with information and computation overload, humans have developed simple “rules of thumb” called “heuristics” which  allow them to make decisions.  It would be great if people could do what Charlie describes above, but it is just not possible.  Decision making heuristics are sometimes beneficial and sometimes not.  Catching a fly ball in a baseball games involves a heuristic which works very well.  Really skillful people who know their limitations well can sometimes use heuristics to their advantage including his partner Warren Buffett and Ajit Jain.  Munger points out:

“There is a close collaboration between Warren and Ajit Jain. I’ve known both a long long time and if there are two better people on this…

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“If you take away the skill that Buffett has Buffett has no skill” is a bullshit thesis.

February 9, 2015 Leave a comment

25iq

Blogger cites an older (misinformed ) Economist article citing an academic study (rubbish) as support for Efficient Market Hypothesis (EMH) here:  http://www.themoneyillusion.com/?p=19209.

If the blogger is trying to get nearly all people to buy index funds, well say so. But don’t use that to argue that markets are *always* efficient. Or that EMH supports deeply broken economic theories like dynamic stochastic general equilibrium (DSGE).

The academic thesis in the case of the paper cited by the Economist is essentially as follows:  If you take away the skill that Buffett has Buffett has no skill.  It’s a bullshit thesis.

Like most academics their desire is to reduce investing to mathematics since without math there is no hope of getting tenure.  That the thesis is not properly tied to reality is not a concern in the academy when it comes to academic finance. What is critical is that the math is pretty, adopting things like…

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How thinking like Charlie Munger may have saved my life

February 9, 2015 Leave a comment

How to avoid blowing up your portfolio.

25iq

This is a continuation of my previous blog posts on “the Psychology of Human Misjudgment,” which is Charlie Munger’s description of dysfunctional decision making heuristics.  Munger writes:

“…tendencies are probably much more good than bad. Otherwise, they wouldn’t be there, working pretty well for man, given his condition and his limited brain capacity. So the tendencies can’t be simply washed out automatically, and shouldn’t be. Nevertheless, the psychological thought system described, when properly understood and used, enables the spread of wisdom and good conduct and facilitates the avoidance of disaster. Tendency is not always destiny, and knowing the tendencies and their antidotes can often help prevent trouble that would otherwise occur.”  Poor Charlie’s Almanack

Here is a personal example of potentially dysfunctional heuristics at work.  For a few months I had been having slight pain in my biceps near my elbows.  My doctor said it was probably an injury…

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