Luck vs. Skill
In markets, luck can look like skill for years. Here is why short track records mean little, how many “winners” appear by chance alone and how to tell the difference.
The coin-flip test
Imagine 1,000 people each flipping a coin once a year, calling heads “beat the market.” After five years, about 31 of them will have beaten the market every single year by pure chance. Those 31 might write books and attract money, yet they have no skill at all. Markets have thousands of funds and millions of traders, so lucky streaks are guaranteed.
| Years in a row | Expected “winners” out of 1,000 by chance |
|---|---|
| 1 | 500 |
| 3 | 125 |
| 5 | About 31 |
| 10 | About 1 |
Assumes a 50% chance each year.
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