Thursday, March 22, 2007

How to be right 90% of the time, and why I'd rather be wrong.

It's easy -- every time you hear about a new idea or business, just say that it won't work. Say that it's a bad idea, the wrong thing, bubble thinking, a hobby and not a business, hopelessly naive, not innovative enough, too different, that it's been tried before, that it won't appeal to regular people, or any of hundreds of other criticisms seen in the comments on reddit, techcrunch, or elsewhere.

Are these people wrong? Only about 10% of the time. For one reason or another, most new things don't work. That's why it's easy to be right 90% of the time (though the naysayers are likely to misidentify the cause of failure).

What if instead of dismissing everything new or daring, we acknowledge that the future is uncertain, and pursue some of these new ideas despite the risk? History has shown that no one can reliably pick the winners, but what if we were clever enough to pick the right ones 20% of the time? That would mean that were are still wrong 80% of the time.

Is it better to be right 90% of the time, or wrong 80% of the time? It depends on the risks and rewards. If we look at it as an investment where the losers go to zero and the winners have a 10x return, then we can see that it's potentially better to be wrong 80% of the time:
   .20 * 10 + .80 * 0 = 2

If we can be right 20% of the time about something with a 10x return, then we should be able to double our money! This is roughly the bet that startup investors are making. They hope that all of their investments will succeed, but realistically they expect that most will not. Of course there are no guarantees -- it's quite possible that due to bad luck or bad bets, none of their investments will succeed.

Aside from possible investment returns, I simply like new things. I like new ideas, new businesses, and the possibility of creating something that will change how people live and work. This is why I would rather be wrong 80% of the time. Not everything will work out the way I would like, but at least I tried.

And now, a fun quote from the earlier days at Google -- it's from a "letter to the editor" at the Wall Street Journal, in response to their "Boom Town" column about Google:
J. Claude Tenday writes: Old habits die hard. For Sergey Brin to expect to grow a $100 billion/year business from an obscure $60 million/year niche player in an already mature Web-search market shows that Mr. Brin is still California dreamin'. And for the Wall Street Journal to take him seriously shows reporters may still be prey to dot-com hype!

Of course Google still isn't a $100 billion/year business, but I'd say there's about a 20% chance that they will become one :)

Recommended reading: Fooled by Randomness. Taleb does a good job of exploring risk and explaining how most people have a very poor understanding of it. He makes his money being wrong most of the time, buying options that usually expire worthless.


Unknown said...

Thanks Paul. If only those of us with startup dreams knew whether WE were right or wrong!

paulm said...

awesome. the first paragraph made me laugh.