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Determinism vs. Free Will and its Ultimate Impact on Your Investments

(August 19, 2010)

Dear Subscribers and Readers,

In our August 29, 2004 Special Report (“Economic Survival in the 21st Century – the Three Key Questions to Ask”), we implored our subscribers to ask whether they truly know their psychological makeup, and how it has affected their investment and trading decisions (our other two questions dealt with aging demographics in the developed world and the end of an era of cheap energy).  We asserted that investing or trading has always been dominated by emotions (and always will be), and as such, it is important to understand what kind of investor you are, and to consequently adopt an investment process that is suited to your personality.

In Chapter V of Reminiscences of a Stock Operator, legendary trader/speculator Jesse Livermore recounted some of his early lessons in speculation (such as adopting a buy-and-hold approach during a bull market).  At the conclusion of the chapter, Livermore remarked “Every time I found the reason for a loss or the why and how of another mistake, I added a brand-new Don't! to my schedule of assets.  And the nicest way to capitalize my increasing assets was by not cutting down on my living expenses.  Of course, I had some amusing experiences and some that were not so amusing, but if I told them all in detail I'd never finish.  As a matter of fact, the only incidents that I remember without special effort are those that taught me something of definite value to me in my trading; something that added to my store of knowledge of the game—and of myself!”  This last sentence is especially important.  After all, how many people live their entire lives without knowing who they really are?  Or the things they like?  Or how they would react to certain situations (such as a secular bull market or a market crash)?  Or where they want to live, or what kind of person they want to marry?  Or as Marty Zweig says in the book Market Wizards, “everybody get what they want from the market!”  And interestingly, the goal is typically not to beat the averages or to make long-term returns, but short-term speculation, excitement, or sense of security/pain avoidance (exemplified during a market crash when investors dump everything).  By definition (given the math), most investors will not beat the averages, and many would do significantly worse than the averages.

So what does the above have to do with the argument between the concept of Determinism and Free Will?  In a deterministic universe, there are no alternative universes, and thus everything that is happening now and would happen in the future is pre-determined.  The fact that I'm writing this commentary and that you will eventually (or not) read this commentary is pre-determined.  There are no if's or but's; the universe just is.  A deterministic universe is actually not far off the mark, at least in a world guided by Newtonian Physics (which is relatively accurate for most things).  Since Newtonian Physics is guided by strict formulas, there is no room for uncertainty.  And thus, assuming the Big Bang Theory holds, every particle and atom in the universe – immediately after the Big Bang – would travel on their predetermined paths which are dependent on the amount of energy released and the momentum of said particles and atoms.  The decisions one is making today is not due to one's free will, but various chemical particles (and electrons) operating in your body, whose paths have already been determined immediately after the Big Bang.  In other words, Free Will is an illusion.  Since Newtonian Physics actually predict the orbits of the planets and the paths of comets very well, it should not be discounted.  Of course – under Quantum Physics – there is room for uncertainty.  But how much uncertainty cannot be known.  Personally, I believe this uncertainty is very small.  Einstein himself comes on the side of determinism by arguing that Quantum Physics does not present the entire picture of how the universe works.  He sums it up with the statement that “God doesn't play dice,” and thus there is no randomness in this world.  I wouldn't go as far as that argument, but personally, I think Chaos Theory is bunk.

The works of Carl Jung suggest that Free Will and Determinism co-exist in the universe (not to be confused with the concept of Compatibilism).  Jung asserts that things are already pre-ordained – i.e. the movie has already been filmed and we are just going through the motions.  However, since no one knows the future, we as actors can freely choose, although what we choose is be pre-ordained.  As such, I would put the concept of “Free Will” under Jung's definition in quotation marks.

No matter which side of the argument one believes, there is no arguing that one's free will in this world is very limited.  A classic example is our physical limitations, such as our lack of ability to fly.  We are also limited by our intelligence in making significant technological leaps, or doing mental calculations faster than a personal computer.  On an individual level, we are limited by our environment, including where we were born and whom we have as our parents, and thus how we were raised (we ignore the moral dilemma of John Rawls' “Veil of Ignorance” for now).  Our genes, upbringing, and overall environment all help to shape our personalities, and consequently where we obtain our education and what careers we aspire to or work in.  More importantly (as least for the purpose of this commentary), it also shapes who we are as investors – whether we possess the ability to become good investors (starting early helps – e.g. Barton Biggs, encouraged by his father, had to study the book Security Analysis when he was young), and which investment philosophies and processes are the most suitable.  I encourage all of you to consider this philosophical question this weekend, and more importantly, revisit one's personality and disposition in order to better understand whether one is on the right path to investment success!

Signing off,

Henry To, CFA

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