Too Sure of Yourself
At the start of 1995 Nick Leeson, a twenty-seven-year-old trader in the Singapore office of Barings, one of the oldest British banks, was a star. The year before, he had brought in a sizeable share of the whole bank’s profit. His bosses in London adored him and hardly checked on him. Why check up on a star? Meanwhile Leeson was hiding losses in a secret account and betting bigger and bigger to win them back. He was sure the Japanese stock market was about to go up, and he was betting huge sums on it.
On 17 January 1995 the Japanese city of Kobe was hit by a massive earthquake. The Japanese market crashed. Leeson doubled his bets: he was sure the market would bounce back. It didn’t. The losses reached eight hundred and twenty-seven million pounds—twice the bank’s entire trading capital. On 26 February Barings, a bank that for more than two hundred years had financed wars and governments, was declared insolvent. It was sold for one pound. Leeson got six and a half years in a Singapore prison.
It wasn’t the earthquake that finished him. Earthquakes happen. What finished him was certainty: that he knew where the market was going and that his mistakes were temporary.
We’re All Above Average
Overconfidence is the most common mistake in the world of money. And, oddly enough, it hits clever people hardest.
The economists Brad Barber and Terrance Odean studied the accounts of more than thirty-five thousand American households over six years. Men traded on average forty-five per cent more often than women. Frequent trading cost the men about two point six five percentage points of return a year, and the women about one point seven two. The men were surer that they knew what to buy and when to sell. Wrongly. Their confidence was what they paid for—in commissions and bad trades. The paper was called, fittingly, “Boys Will Be Boys”.
The overconfident trade too often, bet too big, keep too little in reserve and doubt too rarely. Worst of all, they credit their wins to brains and their losses to bad luck. So after a run of wins they bet even bigger. Like Leeson.
Seeing Only What You Want
Overconfidence has a faithful companion: the habit of noticing only what confirms your opinion.
For years Lefty Ruggiero couldn’t believe that his best pupil, Donnie Brasco, was an FBI agent. Pistone writes that he gave Lefty exactly as much money as he needed to look like a decent earner, and Lefty kept looking for new jobs for the two of them. As far as Lefty could see, they were on their way up together. Every wad of cash from Donnie proved to Lefty that Donnie was one of their own. Anything that might have made him wary, he explained away somehow. When the truth came out, Lefty, according to Pistone, refused to believe it right up to the trial.
Psychologists call this confirmation bias. You’ve bought a share—you read only the good news about it. You’ve hired someone—you see only his successes. You’ve fallen for a project—it’s all pluses. Sound familiar? There’s only one cure: go looking for the arguments against on purpose. Ask yourself what would have to happen for me to be wrong. And check whether it already has.
Blinded by Success
Success has another side effect. It narrows your field of vision. We’ve already seen how in 1980 Tommaso Buscetta stayed with the Palermo bosses Bontate and Inzerillo and found, according to Dickie, that they were paying no attention to what was going on around them, completely absorbed in the heroin business at its peak. Money was pouring in, the lorries were lined up at the gates, and right next door the Corleonesi had been patiently preparing for war for years. Bontate, a clever and powerful man, was the first to be killed.
The better business goes, the less you want to look around. The more money you have, the more it feels as though you know what you’re doing. That doesn’t make success dangerous. It’s just that in good times you have to make yourself do what you don’t feel like doing: look at who around you is gaining strength and at what could go wrong.
The Anchor
And the last trap I’ll name is the anchor.
In 1974 Amos Tversky and Daniel Kahneman ran an experiment. People were shown a roulette wheel that stopped, before their eyes, on either ten or sixty-five, and then they were asked what percentage of African countries were members of the UN. The wheel had nothing to do with it. But those whose wheel stopped at ten guessed twenty-five per cent on average. Those whose wheel stopped at sixty-five said forty-five. A random number the person had just seen dragged the estimate along with it.
Pistone knew how to guard against anchors, though he’d never heard the word. Lefty, testing him, was forever borrowing money—now for clothes, now for furniture—and paying it back in instalments. Pistone understood: Lefty had plenty of money. This was a test. But so as not to be taken for a soft touch, he never handed over the full amount. When Lefty asked for five hundred, Pistone writes, he gave him two hundred.
Somebody else’s number never became his own. Never. Someone names you the first price, the first estimate, the first sum? Remember: it’s already pulling at you. Decide on your number before you hear theirs.
My Mistake
I’ll own up to a mistake of mine. In the years when the oil was selling especially well, I talked Don Vincenzo into taking it to the big city nearby. I was sure: our oil is the best, the cooks love it, so they’ll love it there too. I worked out the profit, drew up a plan, showed it to the Don.
The Don asked only one thing: “And what do the cooks there know about us?” I said they’d find out. He let me try it for a year, with one driver and one warehouse. A year later it turned out that the cooks there had their own suppliers, their own old friends and their own tastes, and nobody there needed our oil. We didn’t lose much. The Don had capped the stake. “You weren’t wrong about the oil,” he told me. “Your mistake was being sure.”