Sunday, August 16, 2020

Holding risky assets going forward - Will luck change?



We are in a recession. We are still in a pandemic. Yet, if you are holding risky assets, you are making money. Is this because of luck or skill? 

If you had to make some subjective distribution of probabilities concerning stock returns and current economic conditions throughout the last few months, you would have likely placed a low weight on the current return pattern; up 31% and 46% for the SPY and QQQ since the  end of March.  Even with the flood of central bank liquidity, the mass of probability would still have been centered-around a lower return outcome. 

Chance is not luck. Luck is a favorable outcome from uncertain events. You can think  about luck and skill in the field of games when comparing chess versus backgammon. There is limited luck with chess. You play a strategy against an opponent. If he has more skill, he will win the majority of the time. He can make a mistake, but that is not luck. Backgammon takes some level of skill but the ultimate outcome usually is determined by the cast of the die. Poker has skill, chance within the cards, and the play of others. You can be very skillful, but you also need the right cards.

There is also the view that luck is something you produce, or, at least there is the illusion of control. “You make your own luck.” Or, according to Samuel Goldwin who may have paraphrased Thomas Jefferson, “The harder I work, the luckier I get.” James Watson of double helix DNA fame stated, “Luck is the opportunity. But using it when you get the opportunity - that’s just intelligence.”  

Luck is based on the optimism that things will go in your favor. You want to be lucky. Yet, a good definition of luck by Ed Smith, the author of Luck: What it means and why it happens is that, “Luck is what happens to me that is outside my control.”

There were a set of chances likelihoods with respect to the stock market behavior since March. The path taken was not unheard of but was not the most likely. If you held or added risky assets you played a strategy and received a good path. Call some of that luck. Now is not to the time bask in you luck or skill but to assess the current odds. In simple terms, what are the odds of a 10% up over 10% down move for the next six months? Using you skill to make that choice will determine your luck. So maybe now is not the time to extend your luck.

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