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Pitfalls

Compact Flourescent Lightbulbs (CFL)… Ripoff?

No, I’m not chopping down rain forests to build a coal fired power plant as I type.

But this is something I came up with when asking myself questions like:    “Every place I see nowadays seems to have these compact flourescent lightbulbs to save power… is that right?” and “What is everyone missing here?”

Then I came across at least one answer.

Fr Wikipedia:

“Approximately 90% of the power consumed by an incandescent light bulb is emitted as heat, rather than as visible light.

A typical compact flourescent lightbulb uses around 1/4 to 1/5 of the power of a normal lightbulb.  But they also cost a lot more than a normal incandescent lightbulb.  So it takes a period of some years for them to pay for themselves… right?

Well, not if you place that lightbulb in a place that requires heat.   Like Canada or the north part of the US.  Because for every kilowatt hour being “wasted” as heat, that’s one less kilowatt hour you need to spend on your heating bill.

So in places that spend a lot of their time requiring heat to keep the space usable, the time required for energy savings to pay for the extra cost of the flourescent bulb isn’t measured in years, it’s measured in decades.   Or never, realistically.   Does that apply to outdoor bulbs, or places that never require heating?  No.   In places that have air conditioning, they’re performing double duty, putting out less heat that needs to be remedied by spending even more power on air conditioning.

So is it a scam?  Not at all.  But in many parts of the world and in many, many situations, it simply costs so much more than a normal incandescent light bulb, that what’s the difference?  As long as you’re losing money, who cares what the intent was?

 

(I’m sure there’s other factors, too.  I have a hard time believing that anything that requires 40-50 different components to function is going to last longer on average than something that contains 4 or 5.  Out of 5 indoor CFLs in my house, 2 of them have burned out this winter alone.)

Am I Lucky or Good?

One of the hidden pitfalls one can encounter in investing is that of overexuberance.

This happens in poker as well, albeit in a much smaller scale.  (Which is why I would recommend taking up the game to anyone serious about taking up active investing… you’ll learn many of the same lessons, but with far fewer zeros on the price tag.)

And I am not ashamed to say that I fell into myself during my early investing career.  Well, I am, but I’m going to tell you anyway, so that we can all learn something.

In both poker and investing, there are elements of luck.  Very big elements.   If you or I were to play only one hand of poker with the best player in the world, we have less than a 50/50 chance of winning, but it’s a lot better than 10%, too.  In fact, our chance of winning that hand are probably no worse than 35%.  And thus, it’s not just possible to win one hand, but it’s actually possible to win several hands in a row, even if we don’t have the slightest clue what we’re doing.

And when that happens, it can be very easy for us to tell ourselves that we know what we’re doing.  That we’re just natuarally talented.   Which would be complete malarky.    And make no mistake, that confusion between a lucky run and real skill can cost you a bundle.

About halfway through 2006, I had a great idea.  In November, the Playstation 3 would be released.  It had been several years since the last generation of video game consoles had come out, and thus it seemed quite reasonable that most users were putting off buying new games, so that they could save their money for the new console and the games that would come with that.   But that’s not the smart bit.  Do I know if games would be flying off the shelves?  No.   It might be a flop compared to analyst’s expectations.  Especially given the very high price of the system. ($600, if memory serves)

Here’s the smart bit.  While I know I don’t know whether or not there’s going to be enough sales to justify an upward move in the share price after the release date, I DO know that there will be a bunch of investors willing to take that bet.

So instead of buying video game maker stock a few days before the release date, I bought options (which multiply your risks and rewards) a few months before, and watched everyone else pile in, hoping to capitalize on all that pent-up demand.  And sold a few days before the system was due to be released.

Smart move, right?  Well, the reasoning was definitely sound.  I tripled my money in the space of 4-5 months.   But it did something else, too.  It made me think I was good.  And the fact that I won huge on that trade blinded my senses to some very, very, basic mistakes that I made that would end up murdering me later on.

First, I had put almost my entire savings into that single bet.  If I had just bought normal stocks and a plane had crashed into a building in NYC again, or ANYTHING came out that would have significantly hurt the company or the overall market, I would have lost a very significant portion of my whole nest egg.

Second, I compounded my first mistake by using options.    If something like 9/11 had happened in that 5 month time span instead of 2001, I would have lost EVERYTHING.  Every single dime.

Sure, my reasoning for making the bet was 100% sound.  But that’s only a tailwind pushing the sails.  The strongest wind at your back in the world won’t matter if a cannonball comes crashing through your boat.   And since I’m not an insider in the company, I would have no idea that there was any internal problem in the company until it was too late.  Bad press release comes out and bang, you’re broke.  Just like that.

But as it happened, planes didn’t crash into buildings.  That time.   For a 6 month time frame, something overwhelming is only going to happen 3-10% of the time, but if I had taken say 30 chances like that in the future, going double or nothing, I was essentially gauranteed to lose everything at some point.

And because I thought I was good, I didn’t spend much time examining my strategy for flaws.  So it let it ride, on another tailwind, that wasn’t as strong.    Then another.  Within 6 months, I had run a little over $50,000 into $500,000.   Life was good, I was God.

Then, a cannonball crashed through my boat.  Goldman Sachs took a 10% hit in one day.  Now if I was in normal stock, that would have left me 10% down.  Not fun, but not a big “Game Over” sign, either.  But these were options.   $500,000 became $250,000 overnight.

Needless to say, it was time to take everything off the table and re-consider what I was doing at that point.   It was then that I started to examine my technique, and not just find it lacking.  I picked up a couple of books on options trading and quickly realized that the concepts these guys were using were waaaaay over my head.  I had no business being in this game with the level of knowledge I currently possessed, which was essentially none.  Not just nothing in options, nothing in investing.    I had just been lucky up until that point, and that was messing with my ego.   And strictly speaking, I was still lucky, because if that drop had been 20%, I would have been dead broke.

That experience was a very valuable lesson for me.  It forced me to learn one of the most important concepts in investing, risk assessment.  It paved the way for me to invest in my education first and foremost.

I tell this story not to caution you against taking a risk and striking out into new territories.   I tell this story so that the experiences (mistakes) that guide your education will not be as expensive as mine.

Be humble.  Even when you win, look back at your performance and see what you could have done better.

 

Defeating Your Biases

In an earlier post, I had talked about how damaging our natural human cognitive biases and belief systems can be to our ability to make reasoned, rational extrapolations about the future.

Now, the question is, what can be done about it?

Carry as few desired outcomes as possible. 

It is well known fact that human beings tend not to question information that tells them what they want to hear, and tend to ignore/attack information that tells them what they don’t want to hear.

If you are a “Right to Life” sort of person, you’re not going to want to hear about the theory of how legalized abortion has led to a drop in crime rates.    Yes, there are rebuttals calling their findings into question.  And if you have a vested desire for “Right to Life”, odds are incredibly good that you’re going to side with them and dismiss the original hypothosis.  If you’re a strict “Right to Choose” person, odds are really good that you’re going to dismiss the rebuttals and go with the original research.

Both sets of belief systems would have  all the while neglecting a third, and very likely possibility:  Both sides are right…. the original research is somewhat flawed, making the correlation not nearly as big as advertised, but still statistically significant.

But if you had no vested interest in the first place, you would be free to read and understand every side of the argument without the need to dismiss relevant information presented by either side because of a need to defend your value system.

How does that effect your real world financial decision making?  Missed opportunities.

Say you were one of (most) people that were very, very angry that banks got bailouts.    People that are angry, by the very nature of anger, are not able to think calmly and rationally about whatever subject is pissing them off.

And that means those people were almost certainly not clear-headed enough to follow that set of circumstances to their logical conclusion:  If a bank that was in trouble got a financial backstop from the government, that means that the chances of it going bankrupt in the near term has become zero.

And since that was a very real risk of any bank that was in that kind of trouble, you can expect that it had a very depressed share price.  And when that risk is removed, you can expect a big jump in the price of that stock pretty much immediately after the announcement.  I used that piece of logic to pick up 30%-in-two-day jumps in both Citibank and Bank of Ireland with almost zero risk.   All because I quickly scan over business news once a day, and don’t have a desired outcome making me unable to accept certain realities.

What else can we do to limit our cognitive biases?  Stay tuned.

How Accurate is My Judgement When it Come to Finance?

Short story: Shit.

Long story:
As we’ve said before, one of the most important factors in investing is being able to assess how likely something is to happen. This can be applied to almost everything. From how likely the Celtics are to cover the spread to how likely America is to bomb (insert Muslim country here) to how likely you are to have to sleep on the couch when you forget your anniversary, everything can be reduced to odds given the information you have available.

But it’s also more complicated than that. Because your ability to assess risk or likelihoods is far from perfect. In fact, if you are just starting out, you probably stink at it.

Think of it for a statistical point of view: think of 10 things that you believe strongly… So strongly that you think they have a 90% chance of being true. Statistically speaking, one of them has to be wrong.

But it’s likely more. A lot more.  The above scenario neglects the fact that we as humans tend to not question information that tells us what we want to hear, and tend to ignore or attack information that tells us things that we don’t want to hear.  We add more weight to the information we here more often, and discounts information that we rarely or never hear.  Anecdotal evidence carries more weight than statistical because anecdotal evidence comes with a story that we can get emotionally invested in.

For example, do you happen to think that the world is getting more violent and angry?  You would be wrong. In fact, the world has never had it so good.  But one could not blame you for believing that. With the advent of 24-hour news networks that make money through advertising and get you to watch by showing you the most shocking thing they can come up with, it would be easy to believe that the world is descending into chaos.

And these biases and cognitive shortcomings mess with our ability to predict the future.

So how can we combat them?

I’ll leave that for another day, but just to be aware of them (and thus not take your conclusions as if they were carved by a god in stone) is a great start.  Just by knowing that we are less likely to take our own perceptions too seriously, or to find ourselves losing our compsure when faced with the differing perceptions of others.

Making Retirement Work Tip #4: Don’t Get Attached to “Stuff”.

One thing I learned about moving to Mexico was how little I actually needed to happily live life. When I came down here two years ago, I came with clothes and a laptop. I rented a furnished apartment, hung up my clothes, and voila! Home. I have since got a comfortable office chair and a monitor for my laptop, but that’s really about it in 2 years. When I return north, I find myself in awe of how much useless stuff I have squirrelled away that I don’t think about at all while I’m gone.

All that stuff was bought somewhere, sometime. And the vast majority of it, I now realize, was totally unnecessary.

Decorative samurai swords for my wall are not making me happy. The just make points with people who judge others based on the stuff on their walls. (which is who, exactly?)  A fancy glass-topped kitchen table does not make my life more fun. My girlfriend makes me happier. Shooting the shit with my friends while taste testing a bunch of foreign beers from the local import store makes my life more fun.

Cheaper, too.

It pays to identify what are things that improve your enjoyment of life, and things that either make us less happy or don’t impact it one way or the other. And if it’s not a necessity, and it’s not increasing our enjoyment of life… what’s the point of buying it? That simple shift in attitude alone can save hundreds a month.