In investing, managing risk and understanding luck are equally important because they are two sides of the same coin. However, investors frequently overlook the role that luck played in their past successes and failures to quantify it, leading to a false sense of control and the inability to make wise long-term decisions.
Paul Tudor Jones, a successful trader, realized in 1993 that he didn’t know exactly how and why he had made all the money he had over the previous 17 years. This realization threw his confidence for a jolt. Jones is successful because he understands risk, and he understands risk because he understands luck. Luck is the flip side of risk, and you cannot understand one without appreciating the other. In investing, much effort goes into identifying and managing risk, but so little effort goes into doing the same for luck. Investors should learn from risk and attempt to quantify luck. Risk and luck are different sides of the same coin, but we treat one as critically important and the other like it doesn’t exist – at least for you when you succeed.