My 8-year-old Zak is going to be taking the OLSAT soon. It’s a 64-question test that looks an awful lot like an IQ test. The test (or one of its brethren like the CoGat) is administered to all 3rd graders in CA. If you score in the top 2 or 3% you can be eligible for your local ‘gifted and talented’ program. 20% of the questions are considered “very challenging” and that’s where the separation on the high end happens.
I gave Zak a practice test just to familiarize him with it. He’s never taken a test with a time limit before and never filled out Scantron bubbles. Do not underestimate how confusing those sheets are to kids. It took a while for him to register how it worked because he only saw choices A,B,C,D for each of the 64 questions.
Daddy, the answer to question 1 is ‘cat’ not A,B,C, or D
I know, Zak, it’s just that…you know what bud, how about just circle the right answer on the question for now.
Hopefully, some practice breaks the seal so he isn’t scared when he sits for his first test ever. I think a small amount of prep is helpful even though I get the sense that caring about tests is not in style around here. Call me old-fashioned. I’m not bringing out a whip, but having the option to go to the program seems worth putting in a token effort if you think your kid has a shot.
Anyway, he took one test. Poking around a bit, I think his raw score would land him in the 90th percentile. Not good enough but it was his first shot and if he doesn’t improve much, that’s also totally fine too. Plenty of people are content just flipping burgers (I’m kidding, calm down. Also, get your own kid to stuff your insecurities into). One thing did stand out. He got all the math questions (about 1/3 of the test) correct.
It made me think of how I was a decent math student growing up.
Not good enough to compete with peers who did math team in HS, but enough to get through Calc BC. Regretfully, I never took another math class after that. I optimized my college courses for A’s not learning. Short-sighted.
I really felt the pain of that decision when I got hired to trade options and was surrounded by a cohort in which 50% of the trainees had an 800 math SAT. (There were 3 people in our office of about 60 that had an SAT verbal > math. I was one of them.) That inferiority exists even to this day. Until Google Translate can decode academic papers, those things are for lining birdcages.
Every now and then, I’ll come across a math topic that seems useful for making estimates about practical things, so I’ll learn it.
And then I’m reminded I have no math gifts because that learning process is uphill in molasses. When I was young I did lots of practice problems (how else are you supposed to become a doctor and please mom) which got me proficient. Today, it’s a similar process. I just power through it.
But there is a difference in how I power through it.
Instead of practice problems, I watch YouTube until I can write the ELI5 version for others. Everyone has heard that if you want to test your knowledge, teach it to others. In that case, it’s a win-win. We all learn.
So that’s what I did this week. I wrote an ELI5 version of a concept called Jensen’s Inequality.
- Jensen’s Inequality As An Intuition Tool (10 min read)
You will learn:
- Why I found Jensen’s Inequality interesting
- The conditions and statement of the inequality
- An example that affects us all
- Spotting Jensen’s in the wild
If you struggle to understand it after reading it tell me. I am challenging myself to see if I can relay not just the concept but the significance of it with minimal effort on behalf of the reader. If I can get to the point where I’m “putting in the effort so you don’t have to” then I’ll feel like I’m being useful here.
If you think you got it, test yourself the way I did. Construct an example. (That’s what I did with the “traffic on the way to Sizzler” example.)
- If you grok Jensen’s Inequality and want to relate it to portfolio construction Corey is your guy. Before I learned of this concept his tweets would have made no sense to me, but now I at least kinda get it.
Active vs. Passive Investing and the “Suckers at the Poker Table” Fallacy.
It’s an 8-minute read worthy of your time because it demonstrates several useful realities about markets.
- Reconciling a paradox: The idea that smart active managers can profit from the distortion of passive flows but if everyone is passive then there are no longer active suckers to exploit.
The author does a neat demonstration decomposing market returns into money-weighted returns (active) and dollar-cost-averaging (passive) to disentangle beta from alpha.
- Markets are not a zero-sum game, even if the battle for “alpha” is.
The size of the profits pie is not fixed…The “suckers at the poker table” paradigm goes astray because there isn’t some exogenous fixed size of the investment pie investors are fighting over. The returns are endogenous: They are in part determined by how smart the investors are, how well the capital in the economy is allocated, and by everything else that impacts economic and market outcomes.
…Smart money going into appropriately priced investment opportunities grows the whole pie. Dumb money going to bad businesses shrinks the pie. Once it’s not a strictly zero-sum game, you don’t need “suckers at the poker table” to outperform.
- The demonstration shows how there is no such thing as truly passive. And if I may add, that means benchmarking your investing, which is constrained by your personal asset/liability picture (ie sometimes you get a bonus or extra cash to add to the market and sometimes you need to pull money out to send a kid to college) to some index is not a great comparison.
If you’re planning to invest for an objective other than buying and holding forever, you have to make decisions about when and how much to invest and when and how much to withdraw. On a sufficiently long timeline, the probability of being a completely passive investor goes to zero.
Eventually, you have to make an active investment decision, and at that point, the shrewd investors are lying in wait. Everyone eventually has to pay Charon to cross the river Styx.
In addition to these points, there’s a brief aside about the Grossman-Stiglitz Paradox which is a rabbit hole of its own. I’d buy stock in that paradox as something you will continue to hear more about.
Finally, while the author finds the zero-sumness of poker to be a poor analogy for investing, he links to a post about how poker has useful lessons for risk management called Getting Schooled In Risk (12 min read).
From My Actual Life
I got married 12 years ago on October 2nd. The wedding was in Cabo which means everyone sweat right through their clothes. The pictures of the reception look like the finish line of a marathon.
When I was at my mom’s house this summer, I found a treat in the magazine stand. It was the personalized US Weekly Yinh made for the guests. I’m unapologetically biased, but this is the greatest document ever made.