Intelligent People but Stupid Choices – Try Using Analytics

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Smart people can routinely make poor decisions. This is due in part to how our brains, inherited from thousands of years of evolution, are wired. They were designed for eating and survival and not to make the types of decisions encountered in our modern world. And there are more reasons why poor decisions are subconsciously made. Analytics can provide the remedy to minimize the damage from poor decisions.

The Triple Crown horse races have begun. This Saturday is the Kentucky Derby. Let’s talk about race horses and decision making.

In 2012’s final leg, the Belmont Stakes. The favored horse, I’ll Have Another, was scratched due to a leg injury. For gamblers who would likely to have bet on I’ll Have Another for the Belmont, maybe the horse being scratched saved them some money. Why? I will get to that in a moment.

To set up my answering the “Why?” let’s first discuss decision making. I am fascinated about how and why poor decisions are made. A writer on this topic that I follow is Michael J. Mauboussin, chief investment strategist at Legg Mason Capital Management. In an article he wrote in The Futurist (March-April, 2010) he said, “Smart people make poor decisions because the mental software that we humans inherited from our ancestors isn’t designed to cope with the complexity of modern day problems and systems. In short, smart people, like everyone else, face two major obstacles to making good decisions. The first obstacle is the brain, which evolved over millions of years to make decisions unlike what we face in modern life. The second obstacle is the growing complexity of the world in which we live.”

 

Decisions by guessing versus with analytics

Others have also written about this. In the book Thinking, Fast and Slow by Dan Kahneman, recipient of the Nobel Prize in Economic Sciences for his seminal work in psychology that challenged the rational model of judgment and decision making, Kahneman explains the two systems that drive the way we think. System 1 is fast, intuitive, and emotional; System 2 is slower, more deliberative, and more logical. System 1 is largely unconscious and it makes snap judgments based upon our memory of similar events and our emotions. System 2 is painfully slow, and is the process by which we consciously check facts and think carefully and rationally.

A problem Kahneman points out is that System 2 thinking (slow) is easily distracted and hard to engage and that System 1 thinking (fast) is wrong as often as it is right. System 1 thinking is easily swayed by our emotions. As an example, he describes an observation that people buy more cans of soup in a grocery store when there is a sign on the display that says "Limit 12 per customer." People miss the opportunity to analyze.

 

Why I’ll Have Another would probably have lost the Triple Crown.

Mauboussin wrote a blog in June, 2012 for the Harvard Business Review titled “The Business Lessons of the Belmont Stakes.” I have done some editing of his points. He wrote:

“It's easy to think about I'll Have Another's chances to win the Belmont using the System 1 (fast) thinking. He won the Triple Crown's first two races in impressive fashion. And handicappers certainly like his chances (the betting odds suggest a 50%-60% probability that he'll outrun the other 11 horses in the race). System 1 thinking sees mostly upside.

System 2 thinking (slow) paints a more pessimistic picture. Consider that of the 30 horses in a position to win the Triple Crown in the last 131 years, only 11 have succeeded. That's about a 40% rate. But it gets worse. Prior to 1950, eight of the nine horses that tried, triumphed. Since 1950, only 3 of 21 have managed the feat, and none have done so since 1978. A success rate of less that 15% is not encouraging.

Perhaps I'll Have Another is a really special horse, you may be thinking, a once-in-a-generation speedster. Well, we can quantify that with something called a Beyer Speed Figure, a measure of a horse's performance adjusted for track conditions. All you really need to know for this purpose is that higher speed figures belong to faster horses.

Here are the speed figures for the Kentucky Derby and Preakness combined for the last seven Triple Crown aspirants, all of which failed, along with I'll Have Another:

Silver Charm — 233

Smarty Jones — 225

Funny Cide — 223
War Emblem — 223
Real Quiet — 218
Charismatic — 215
I'll Have Another — 210
Big Brown — 209

I'll Have Another looks pretty lead-hoofed. Big Brown, the only horse that appears worse, was eased coming down the homestretch in the Preakness, paring a few points off of his speed figure. And he went on to finish dead last in the Belmont in 2008.”

 

The case for analytics

OK. One example of a horse race revealing how a better decision would have been made via using analytics may not be sufficient. But can you recall any decisions made by your managers or executives that were based more on their intuition, gut feel or political positioning rather than on fact-based information and analysis? If not, you are lucky to work with such competent people. My “guess” is most of you can recall one or more decision blunders. Intelligent people but stupid choices.  

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Gary Cokins shares his advanced cost management and performance improvement systems expertise with the Business Finance community.

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