The Little Book of Behavioral Investing: How not to be your own worst enemy

Chapter Eight

See No Evil, Hear No Evil

It’s Time to Prove Yourself Wrong

 

 

 

 

 

 

TIME FOR ANOTHER BRAIN TEASER.

Let’s imagine that you have four playing cards laid out in front of you. Each one has a letter on one side and a number on the other. The four face-up symbols are E, 4, K, and 7. I’m going to tell you that if a card has an E then it should have a 4 on the reverse. Which cards would you like to turn over to see if I am telling the truth?

Give it a little thought.

If you are like an incredible 95 percent of the fund managers who have answered this question, you will get it wrong. So no pressure then!

This question has by far and away the highest failure rate out of any question that I ask. It is also one of those biases that are immune to your performance on the cognitive reflection task we covered in Chapter 1. No matter how well you scored, the chances are you will still suffer the bias that underlies this problem.

The most common answer is E and 4. The correct answer is that you do need to turn two cards over, and they are the E and the 7. Let me explain. Most people get the E; if you turn it over and it doesn’t have a 4 on the back you have proven that I lied. If you turn the 7 over and it has an E on the back, you would have also proven that I lied. However, turning the 4 over can ’t help you. I said that E had to have a 4, not that 4 had to have an E. The habit of going for the 4 is known as confirmatory bias—looking for the evidence that agrees with us.

Let’s try ...