Skill v/s luck in investing - the eternal debate

I am very sure that we all have been part of this debate at one time or another in our investing lives. In my experience, the more drunk the participants, the more lively is the debate! :-)

There are some who really believe in their own prowess and opine that skill is the only factor which dictates success in investing. Well, perhaps these people have been fooled by randomness or have never been hit by a black swan event. These people should really read Taleb. :-)
There are others who say that investing is as good as (or as bad as) gambling. They opine that performance in investing is a matter of sheer luck. Believers in the Efficient Market Theory would surely say that if you are outperforming the market, it is only because you have been lucky. Well, these people should read Buffett! :-)

In my view, the answer lies somewhere in between and is a combination of luck and skill. Its like marriage. One would be lucky to get a good wife, but one has to be skillful so that she remains good to you! :-) Success in investing is a matter of luck as well as skill. However, the percentage of both differs in different situations.
E.g. There is skill involved in earning money as well as in not losing money. So if you avoided something bad, thats skill too. On the other hand, many times, one earns money by luck too.

But in my experience, here is what most people do. If they make money, its all skill, but if they lose money, its all bad luck!! I don't think thats a very great way of approaching things. Crediting skill when we make money leads to overconfidence and stupid decisions in future. Blaming luck when you lose money does not let us introspect and correct our mistakes since we think that we did not make a mistake, it was just bad luck!

Let me share a couple of my experiences with you.

1) Albright Chemicals (now, Rhodia Specialty Chemicals)
Albright was not an extraordinary business. But still, I had bought it for a specific reason. The company was available at a market cap of about Rs.50 cr. (Today its Rs.126 cr). The company had also published an advertisement for selling their land in Ambernath. The 26 acre piece of land would be worth about Rs.50 cr. Now, since it was very clear that they wanted to sell this land, its value becomes material. I thought the business to be worth Rs.45-50 cr plus the land worth Rs.50 cr more, giving a valuation of Rs.80 cr, after deducting Rs.20 cr if debt. So, something worth Rs.80 cr was available for Rs.50 cr. Decent logic, I felt, and I bought the stock.
After some time, suddenly, Solvay acquired Albright's parent, triggering an open offer. The stock price reacted and I sold at a decent profit.
Now, the question is, was this skill or luck? I believe the end result was a matter of pure luck. I had bought it primarily because of expectation of land sale, leading to increased valuation for the stock. The price did increase, but for a different reason. The land still remains unsold!! So, even though the end result was as per expectation, the reason for the end result were not as per expectation. Now, thats luck, wont you say?

So, in my view, if you bought something with certain expectations, and in future, the expectations materialised just as per your view, due to which you earned the desired profit, then its skill. Otherwise, even if you earned the profit, its all luck!

2) Provogue Ltd.
Boy, was that an adventure or what! :-) Although, I must say that it was not a very comfortable adventure! I did earn decent returns here, but it was all pure dumb luck. Absolutely no doubt about it!
The reasons why I bought the stock can be found here.
After some time, due to some changes which occurred in the situation, I decided to sell it before ex-date.
Now, all that I had thought would happen, did not happen!
- I had thought that on ex-date, the stock price wont fall much. Maaan, it fell huge!
- The reason I sold, was that relisting of Provogue could take lot of time..but it got relisted pretty fast.
- Creating free shares of Prozone was the main reason for getting into Provogue. That, it seems, would not have happened! :-)
So, absolute dumb luck it is!

There are other cases where I think I applied decent amount of skill..but there is no fun in talking about success stories, right? :-)

So all in all, we should always remain grounded, with understanding of the reality that luck does play a role in investing. Luck is something we cannot control, but skill is something we can develop. Let us all concentrate on that but not consider ourselves to be exceptionally skilled just because we earned money. If we do that, there would be no room for self-improvement.

On the same topic, me and my friend Ninad often discuss about the idea of positioning yourself for luck. If you can get yourself in situations where multiple lucky things can happen to you or no un-lucky thing can happen, that would be really something! But, that would be a topic for a separate post, I hope!

Till then,

Cheers and happy-go-lucky investing! :-)