Good decisions and good outcomes

In simple terms

In investing, you decide with incomplete information, and the result depends partly on things nobody can know in advance. So a good decision can lose money, and a bad one can make money. If you judge every decision by its result, you will learn the wrong lessons: you will repeat lucky mistakes and abandon unlucky good choices.

Four combinations

The two diagonal boxes are easy to learn from. The other two are where people go wrong: they treat bad luck as a mistake and a lucky escape as skill.

Outcome bias

Outcome bias is judging a decision by how it turned out. It is everywhere in investing: a fund manager who had a great year is called brilliant; one who had a bad year is called foolish, though both may have followed sound processes. A friend who doubled their money on a tip seems wise.

Hindsight bias makes it worse. After the fact, the outcome seems to have been obvious, so we believe we "knew it all along" and that the loser "should have seen it coming".

Judging the decision itself

Ask:

1. Information: did I gather the information that was reasonably available?
2. Reasoning: was my analysis sound given that information?
3. Range of outcomes: did I consider what could go wrong, and how likely it was?
4. Size: was the amount at risk sensible, so that a bad outcome would not be a disaster, as the position sizing lesson explains?
5. Process: did I follow my own rules and plan?

A decision that passes these tests was good, whatever happened next.

The decision journal

Because memory rewrites itself after outcomes are known, write things down before the result. A simple decision journal:

Review entries after the period you set, comparing what happened with what you wrote, not with what you now remember thinking.

Learning from mistakes honestly

When a decision goes badly, sort the cause:

• Bad information: you missed something you could have found. Fix: research process.
• Bad analysis: you had the facts but reasoned poorly. Fix: checklists, second opinions.
• Broken process: you broke your own rules. Fix: pre-commitment, as the emotional decisions lesson explains.
• Bad luck: you did everything reasonably and the unlikely happened. Fix: nothing, except perhaps position size.

Do the same for decisions that went well. A win that came from broken rules is a warning, not a success.

Why it matters

Investors who learn from outcomes alone drift towards whatever got lucky recently, often taking more risk after lucky wins. Investors who judge their decisions improve steadily, because they keep good processes through bad luck and fix bad processes even when they happened to win.

Limitations

Separating luck from skill is hard, especially with few decisions over short periods. A run of bad outcomes can be a sign that the process is flawed, not just unlucky, so outcomes still matter as evidence over many decisions. Journals only help if they are honest and reviewed.

Common mistakes

• Treating profits as proof of good decisions.
• Abandoning a sound plan after one bad result.
• Rewriting your memory of why you made a decision.
• Reviewing only losers, and never the lucky winners.

Try it yourself

1. Start a decision journal using the fields above for your next investment decision.
2. Pick one past decision that made money and one that lost money. Judge each by the five questions, not by the result.
3. Sort the cause of your worst past decision into one of the four categories, and write one change that addresses it.