If you’ve stopped by our office the last several months, you were likely asked to do something a little outside the norm. Clients, prospective clients, vendors, even the mailman submitted their best guesses as to how many jelly beans were in a glass jar atop Mary’s desk.
Today, we’ll share the results and our motivations behind the study. Very simply, this was an experiment in the wisdom of crowds and how markets work.
95 guesses were collected in all. Some guessed quickly with little, if any, thought. Others spent several minutes with a calculator, pad and pen. Neither method proved more effective than the other. Estimates varied widely from a low of 100 to a high of 4,000.
The actual count was 652.
When taking out the extreme low and high guesses, the average of all guesses was 714, just 62 beans off the actual count.
So, we must be pretty good at guessing things like this? Not exactly.
Only 16 of those guesses came within 100 beans, or 15% of the actual count. Only eight guesses were closer than the average guess with the closest guess off by 23 beans. Many similar studies have been done with sample sizes much smaller and larger than ours with the very similar results. The conclusion time and again is that collectively, we know more than we do individually.
Jelly Beans & the Stock Market
What does this tell us about markets?
When an investor seeks out a strategy where one stock, sector or other choice is selected over another for any number of reasons, that investor is suggesting that they or their advisor know something, have some insight or can outguess or out time other investors in the marketplace.
The other assumption, of course, is that even if there are a handful, eight in our sample, that can outwit the average, the likelihood is this outcome is largely due to chance rather than skill. In other words, just because one person beats the average in one instance does not make them anymore or less likely to repeat that performance.
The price of a stock is made up of all the collective guesses about the value of a company based on all information known at that time. Time and again, markets have proven to be fairly efficient. That doesn’t make them perfect, but it does mean that, generally speaking, it is highly likely that the average guess of all market participants is superior to any one individual guess.
Why Average Isn’t
In our culture, average often has negative connotations. There’s something defeatist, almost un-American about seeking out the average market return. This experiment is an excellent way of illustrating why, at least when it comes to investing, this is a dangerous and misguided belief.
Earning close to the market average over the long run through a low cost, globally diversified portfolio, depending which study and which timeframe you follow, will beat the average investor return an overwhelming majority of the time. In the case of the jelly beans, it means admitting that you’d rather be within a few beans of the perfect answer than risk the chance of being one of eight who outperform. Even the residents of Lake Wobegon don’t like those odds.
We’re inherently wired to want to win, but investing isn’t a zero sum game. Sometimes winning includes understanding where we have skill and where we don’t. Where we should focus resources to impact those things we can control as opposed to hoping we can find the exact right needle in the haystack time and time again.
If you’re fascinated by this phenomenon, doubt it entirely, think it’s just a matter of one errant experiment or would like to learn more, check out this YouTube clip from BBC’s in house genius and Oxford University professor Marcus du Sautoy. Marcus explains his own jelly bean experiment and its origins and the wisdom of crowds.
Have a great week!