The first time I had statistics in undergrad, I thought the whole subject was just plain wonky. But when I took a number of statistics courses in graduate school, it all started to make real sense. Finally, the CFA program “turned on the light” for me at full strength. Like Jack Nicolson said in “A few Good Men” – crystal clear!
With that said, many think of statistics as only a quantitative science. There are many formulas and calculations that seem to provide concrete answers. With natural or scientific phenomena, statistics can work very well. The calculations are clear, but I think the more important lesson of statistics is the thought paradigm that accompanies the “science”. Those who have applied regression analysis extensively in investments will tell you it just doesn’t work effectively to show inflection points (changes in direction). That is not to say that the tools of statistics are not effective, but they are not concrete when human irrationality is present.
I remember when we only had black and white TV’s. Statistics often conjures up black and white answers or binomial responses to the evaluation of ideas. These are basically yes/no answers to questions. In truth, the world we live in is between the two extremes most of the time. This means answers are often shades of grey.
The probability curve is a beautiful distribution. It tells me that some outcomes are more or less likely to occur given certain circumstances. Thus, statistics helps me to think in “shades of grey”.
The answers in the investment world are seldom clear. Each investment has its pluses and its minuses. An investor must weight that information to make informed decisions. When the preponderance of evidence is clearly in one direction or another, the value to be bought is very small or negative. The application of “statistics thought” empowers smart investors to cumulate and evaluate multi-faceted decisions before it is widely accepted or clearly black/white.
I would call the route application of statistics in investments as “shooting from the foul line.” The better approach is to use the thought paradigm to shift around your defenders and take it to the hoop with a finger roll. It is sort of the difference between a static approach and a more dynamic one.
Whenever human irrationality can seep into a decision, the use of the paradigm of statistics is much more effective than the concrete application.
Now get on the court, move that ball and keep in motion!
