The Dangers of Overconfidence (Part One) - Special People are Quitters

Dmitri Martin, one of my favorite comedians, is known for his humorous sketches, delivered deadpan, that speak to harsh truths with which we are all well acquainted. One such sketch is the one where he compares most peoples’ concept of the path to success with the actuality of the path to success.

Most of us know intellectually that hard work and failure often precede success. We probably even have a couple of go to anecdotes (that do little to make us feel better about our own shortcomings, incidentally) – Michael Jordan was cut from his high school basketball team, Thomas Edison failed thousands of times before inventing a commercially viable light bulb filament. But, however much we may wish it were different, success is typically preceded by a good deal of imperfection and those who go on to do great things are the ones who learn to fight through.

So, what does a feeling of personal specialness have to do with stick-to-it-ive-ness? A great deal as it turns out. Carol Dweck and her team have pioneered the research in this field in the trenches of the New York City school system. Dweck’s team took a random sample of children out of their fifth grade classes, and in the first round of the experiment, provided them with puzzles simple enough that most children could excel. To the first group of children, she complimented their intelligence, “You did well, you must be very smart.” To the second group, she complimented their effort, “You did well, you must have worked very hard.”

For the second round of the test, the children were given an option. They could choose a harder test or a test equivalently hard to the first. Of those praised for hard work, 90% opted for the harder option, whereas a majority of those praised for intelligence opted to stay with the easier test.

It seems that people who believe that they are naturally gifted tend to quit earlier and choose simpler tasks than those who have been socialized to work hard. Feeling special produces a euphoric high that people are understandably hesitant to part with. Thus, when special people are confronted with an especially difficult task, they often back down, seeing it as a threat to their “crown of giftedness.” After all, why risk the possibility of failure when you could bask in the safety of “specialness?”

Many a doting parent has sought to buoy the self-esteem of their little darling by telling their son or daughter that they are smart. After all, it stands to reason that intelligent people are more successful and in the case of girls, it circumvents the sexist habit of focusing solely on attractiveness. But thirty years of research tells us that focusing on effort rather than specialness is the best way to encourage young Einsteins.

Dr. Dweck relates the story of “Jonathan” (a composite character) in her seminal article, The Secret To Raising Smart Kids.

“A brilliant student, Jonathan sailed through grade school. He completed his assignments easily and routinely earned As. Jonathan puzzled over why some of his classmates struggled, and his parents told him he had a special gift. In the seventh grade, however, Jonathan suddenly lost interest in school, refusing to do homework or study for tests. As a consequence, his grades plummeted. His parents tried to boost their son’s confidence by assuring him that he was very smart. But their attempts failed to motivate Jonathan. Schoolwork, their son maintained, was boring and pointless.”

What many a well-meaning parent has done when emphasizing innate gifts is create the perception that achievement is based on leveraging specialness rather than hard work. When children view themselves as special or gifted, they become accustomed and entitled to having work come easily to them. When it does not, they write it off as “stupid” or “boring.” Worse still, they believe themselves to be ineffectual in doing differently, since after all, their past ability to excel has all been predicated on natural gifts they did nothing to earn.

This mindset is doubly damning. When a child is successful, they are unable to truly take credit for their success, since it is a natural consequence of their unearned gift. When they are unsuccessful, they have no culpability and could not have done any better, since success is contingent upon a talent with which they were not blessed. This “either ‘ya got it or ‘ya don’t” attitude leads to something that psychologists call “learned helplessness.”


The original research on learned helplessness was conducted by one of the fathers of positive psychology, Martin Seligman. Dr. Seligman’s experiment tested two groups of dogs. The first set of dogs were harnessed in and given a mild electrical shock which could end by pressing a lever inside of their cage. Soon enough, the dogs stumbled onto the correct response and learned to act in every instance of discomfort. The second set of dogs were similarly harnessed and shocked, but were initially unable to bring about the cessation of shock by pressing the lever. After repeated pairings with this helpless situation, they were then placed in new cages where their action could bring about the end of the shock by pressing the lever. Sadly, by this time, the dogs had conditioned themselves to helplessness and directed their energy toward enduring the pain rather than improving their plight.

It is easy to draw parallels between the helplessness of the dogs and a student who has bought into the notion that success is predicated entirely on innate specialness. After all, his success and failure is seen as being entirely out of his hands – so why try? Given the unintended consequences of praising children as special, Dweck and other experts on giftedness encourage taking a different tact. Rather than praising giftedness, they recommend praising hard work and encouraging a growth mentality. In so doing, children learn that they will be praised for process rather than outcomes. This approach empowers young minds and teaches them success is in fact a byproduct of effort and that whatever their natural gifts may (or may not) be, they can bring about improved outcomes with sweat equity.

The parallels between the examples given above and investors may not be immediately obvious, so let me take a run at describing why I think that overconfidence is one of the most harmful behavioral traits an investor can exhibit. Equity investing is, by its nature, an act that requires humility, patience and a willingness to be self-critical, none of which are hallmarks of overconfident people. Investors with an "I'm special" mentality, enter the capital markets and expect immediate success, which Mr. Market may be stingy to produce. When the overconfident investor doesn't achieve his desired result, he may quit altogether (dangerous) or double down in an effort to attain the return that he is "due" (doubly dangerous). Just as a child labelled gifted may quit too easily when school becomes tough, an overconfident investor may pout if they do not live up to their own internal hype as a Junior Warren Buffett. With both the child and the investor, the fix is the same - focus on process. You aren't special, but your discipline can be. The market may not be in your control, but your reaction to it is. In the long-term, achieving satisfactory returns in the stock market is less about being gifted and more about being process-driven. The bad news? You're not that great. The good news? Realizing how average you are is the first step toward doing something extraordinary. 

Want more great content on the intersection of mind and markets? Check out The Laws of Wealth by Nocturne Capital founder Dr. Daniel Crosby - HERE

Memento Mori:The Ancient Roman Cure for Overconfidence

“I do not like to work with patients who are in love. Perhaps it is because of envy—I too crave enchantment. Perhaps it is because love and psychotherapy are fundamentally incompatible. The good therapist fights darkness and seeks illumination, while romantic love is sustained by mystery and crumbles upon inspection. I hate to be love’s executioner.”

So says Dr. Irvin Yalom, Stanford professor and the author of, in this shrink’s humble estimation, some of the finest books on psychology produced in the last 50 years. While Yalom’s pronouncements here deal most directly with romantic love in a therapeutic setting, their application to bull markets is obvious to me.

Just as good therapy is about seeking personal illumination, good investing is about overcoming spin and subterfuge to determine the true value of an asset. When times are tough, everyone is a cynic and such scrutiny comes easily, but as rising tides begin raising all boats asking the tough questions seems passé; paranoid even.

This tendency is rooted in a handful of well-documented biases, the first of which is “affect heuristic,” or the tendency for our current mood to color our perception of risk. When giving seminars on risk assessment, I often ask participants to write down the word, that if it were spelled phonetically, would be “dahy.” Go on, write it down and don’t over think it.

It turns out the way you spelled the word has a lot to do with the kind of mood you are in. Those that spelled the word as “die” may need a hug, while those that spelled the word “dye” are probably doing fine. So too, goes the market. When things have been going well, an inflated P/E ratio is considered “growth,” not an indication of being overvalued.

A second contributor to this dynamic is our tendency to own success and delegate misfortune, known as the “fundamental attribution error.”

We are quick to integrate contextual cues into our appraisals of ourselves but do not give others the same nuanced appraisal. Instead, we see their failings as more absolute and organic. On your morning commute, this looks like you screaming at others to “Watch where they are going!” even as you ascribe your own bad driving to not yet having had your second cup of coffee.

This tendency to own success and outsource failure leads us to view all successes as personal investment skill, thereby robbing us of opportunities for learning as well as any sense of history. Everyone was a genius in 2013.

In ancient Rome, victorious military leaders were paraded through the streets to be celebrated by the masses, much as today we celebrate the rockstar investment managers at conferences and on the sets up 24-hour business networks.

But there is one edge the Romans victors hold over the modern day Wall Street warrior, a behavioral intervention meant to overcome the damning effects of hubris and recency bias. Behind the general, in the same chariot, was placed a slave whose sole responsibility was to remind the general of his mortality as a hedge against excessive pride, the kind that comes before the fall. “Memento mori”, the slave would whisper, “Someday you will die.”

Even on the general’s greatest day, the Romans included a mechanism by which the conqueror was reminded that he too would be on the receiving end of bad luck at some future date.

Odds are, your investments and those of your clients have done well this year, a reality that should be celebrated after the collective punch to the gut of five years ago. But even as we celebrate, we would be wise to do as the Romans and ground ourselves in the sobering truth that tomorrow won’t always be as bright as today. “Respice post te! Hominem te esse memento!”, the slaves would further say, “Look behind you and remember that you are a man."

For much more information on how you can make better investment decisions, check out The Laws of Wealth by New York Times bestselling author Dr. Daniel Crosby.