Beginner’s Luck refers to the situation where a novice experiences unexpected success, sometimes besting an expert. Does beginner’s luck really exist? What causes this phenomenon?
Randomness vs. Luck
Let’s first start with a definition of “luck” and how it relates to randomness. Random events occur on the system level in that the randomness applies to everyone in the system. What we call luck is those random events applied to the individual. For example, the numbers picked in the lottery are random, but if you happen to have the winning numbers, you are lucky. Hurricane paths display randomness, but if one hits your town and destroys your house you are unlucky.
Effects of Skill vs. Luck on Outcomes
The key to understanding beginner’s luck is to recognize whether skill or luck primarily drives the results in question. An activity whose outcome is mostly luck is prone to beginner’s luck while beginner’s luck is rare in an activity where skill is the dominant determinant of success. Below is the skill-luck continuum from Michael Mauboussin which he discusses at length in his excellent book The Success Equation. The skill-luck continuum provides an approximation of the role of skill vs. luck on the outcome of various activities.
The results for activities all the way to the right are completely random and thus luck determines the outcome entirely. There is no skill involved in the outcomes of slot machines, roulette, the lottery and the like.
On the left hand side are activities where the outcomes are almost entirely based on skill. There is very little luck involved in determining those outcomes. The more skilled participant will almost always win the activities on the left-hand side. (Note competitors can have nearly identical skill, at which point luck again plays a bigger role – this is called The Paradox of Skill and is quite interesting.) In the middle of the continuum the contribution of skill vs. luck provides varying results.
Beginner’s luck only occurs on the right side of the above continuum. Ask yourself these questions:
- Can a beginner have a good run at the roulette table or at the slot machines? Absolutely.
- How about poker – can a beginner win at a table of more experienced players? Yes – a beginner can be dealt some good hands and win based just on the strength of the cards dealt. However, over time you’d expect the beginner to lose handily to more skilled poker players because poker isn’t just a game of chance; over enough hands skilled players beat less skilled ones. See research in PLOS One on this point.
- What about investing? Can a neophyte stock picker beat an experienced investment manager? Yes, especially over a shorter period of time. Like with poker, however, over longer time periods, a truly skilled investment manager has a greater chance of beating an amateur. For an interesting example of this point see The Fascinating One-Stock Challenge.
- How about tennis – can a beginner beat an experienced player? Not likely. A beginning tennis player probably couldn’t even return the serve of a pro player or a top amateur.
- What about chess – can a brand new player beat a chess grand master? Nearly impossible.
When a beginner does extremely well early on it is typically in an activity where luck plays a big role in the outcome. There is no scientific proof that a beginner does better than chance dictates in these activities or that a beginner, due to being “loose” or whatever has an advantage over an expert where skill is a deciding factor.
Beginner’s Luck: Gamblers and Investment Managers
What does tend to happen is that the person who loses their first few bets at craps or roulette stops playing and moves on. There is no notable event for others to notice or the new gambler to remember. Just someone losing at the gambling table. On the other hand, if the beginner wins at the gambling table early on we tend to take notice and the experience will be ingrained on the new gambler.
Thus, it is common that those who are lucky early on are the primary people who continue on in the activity. Early losers are less likely to stick with the activity than the early winners. What we think of as “beginner’s luck” is likely just our skewed perception.
A great example of this point is found in a study of Norwegian gamblers. Fifty-five percent of “at-risk gamblers” (those who have suffered negative consequences from gambling) reported experiencing beginner’s luck when they began gambling vs. merely 21% of “no-risk gamblers” reporting beginner’s luck. Thus, having lucky beginnings may provide a “hook” that leads to becoming a long-term gambler. Nassim Taleb describes this point well in The Black Swan:
Those who start gambling will be either lucky or unlucky (given that the casino has the advantage, a slightly greater number will be unlucky). The lucky ones, with the feeling of having been selected by destiny, will continue gambling; the others, discouraged, will stop and will not show up in the sample. They will probably take up, depending on their temperaments, bird-watching, Scrabble, piracy, or other pastimes. Those who continue gambling will remember having been lucky as beginners. The dropouts, by definition, will no longer be part of the surviving gamblers’ community.
Beginner’s luck can have a huge effect on those in investment management.
Assume two equally talented investment managers: Bill and Ted. They both have MBAs from top schools, are CFAs and both worked at large investment firms as analysts and then portfolio managers. They had nearly identically impressive investment track records at their respective firms. On the same day each decided to open up their own investment shops.
Bill’s firm, Bill LLC, started a fund called “Alpha Dog” which did great during it’s first few years and took in hundreds of millions of dollars of client assets due to it’s great performance. With such success, Bill was able to hire more investment managers and analysts, expand the firm and start other funds with different investment styles from Alpha Dog, such as “Alpha Hawk”, “Alpha Tiger” and “Alpha Shark.” Bill and his colleagues successfully raised capital for these new funds based on Alpha Dog’s stellar early performance and Bill LLC was soon managing over $1 Billion.
Interestingly, after about year four, Alpha Dog didn’t do that great, but given the firm’s diversification into the other new funds, Bill LLC continued to enjoy great success because there were always a few of the new Alpha funds that were performing pretty well in any given year. Bill bought a vacation home, started traveling on a private jet, divorced his wife and began dating a former NFL cheerleader.
Ted’s firm, Ted LLC, launched a fund called “Peak Fund.” Unfortunately, Peak Fund’s first few years were rough as it generated lackluster returns. Given it’s poor performance it never attracted much client capital and in year four Ted had to fire his two employees, close down Ted LLC and take a junior position as an analyst with a global investment bank. Interestingly, Peak Fund’s performance was really good for the last few quarters before it closed but unfortunately few wanted to invest in Peak Fund given its poor starting track record. Ted poured all his personal assets into Ted LLC and was financially ruined. His wife left him for her high school boyfriend and Ted moved into a modest apartment after she was awarded the house in the divorce.