Avoiding Bad Decisions is More Important than Making Great Decisions

Nick Maggiulli writes on his blog about “Winning the Loser’s Game” a book written by Charles Ellis.  In the book, Ellis describes what he calls “winners’ games” and “losers’ games”: In a winner’s game, the outcome is determined by the correct actions of the winner.  In a loser’s game, the outcome is determined by the mistakes made by the loser. Ellis then goes on to explain that investing is a loser’s game because most investors who attempt to beat the market (i.e. those who try to win) typically underperform in the long run.  For example, using excessive leverage or paying high fees for expected outperformance are two common ways in which would-be winners become definite losers.

The better strategy for investors then is not to try and win, but to not lose.  Too many people in the financial community obsess over the “optimal” way to invest when their time would be better spent steering clear of actions that could lead to ruin. Warren Buffett said it best in his 2005 Berkshire Hathaway letter to shareholders: Over the years, a number of very smart people have learned the hard way that a long string of impressive numbers multiplied by a single zero always equals zero.

The warning from Ellis and Buffett alike is crystal clear: avoid the zeros.  Avoid them at all costs. Why?  Because the zeros are those things that can set you back years or decades in an instant.  What are “the zeros” exactly? In the investment world, the zeros are usually things associated with high costs (i.e. fees, taxes, extravagant spending, etc.) or high risks (i.e. leverage, concentration, etc.).  All of these things, if not managed properly, can wreak havoc on your finances.

As the saying goes, “Play stupid games, win stupid prizes.”  So don’t play.  Not even once.