FIVE INVESTMENT LESSONS FROM THE LATEST WORD CRAZE
This past October, Josh Wardle went public with this brilliantly elegant, daily word game that he designed for his girlfriend, Palak Shah.
On November 1st, 90 other people had logged onto the website to play.
But on January 2nd (last week), 300,000 people did so. It's a simple game, with undertones that span our lives amongst words...from elementary school spelling tests through adult play of Scrabble, Boggle, and the pandemic-VIP NYT Spelling Bee.
Strategizing around the game is like Wheel of Fortune meets crosswords meets chess.
There are no ads. The website is barebones. Josh is not trying to sell you anything. From his NYT interview:
“It’s something that encourages you to spend three minutes a day,” he said.
“And that’s it. Like, it doesn’t want any more of your time than that.”
Puzzles are published daily. Starting with a blank slate, you have six attempts (going down) to guess a five-letter word (going across)
After each guessed word, Josh's color-coded algorithm will tell you if you each letter is one of three things:
You might see this pattern if you solved it in four guesses:
Because it's programmed (and assuming you begin to actually care about your score), there's also the anxiety akin to a computer-based testing center, where you know that as soon as you hit ENTER, you'll find out whether you passed or failed.
Properly played, feedback from each guess informs a high quality next-guess.
If you haven't yet played Wordle, you'll enjoy the rest of this piece if you first...
If you get into it (like so many have), you'll begin to not only want to find the answer each day, but you'll want to reduce the number of guesses it takes you each time.
It's simple, and genius. It leverages the complexities of language, but itself is not complex. There are right and wrong ways to play, but really smart people disagree adamantly about optimal strategies.
And playing Wordle at an elite level has uncanny parallels to investing at an elite level.
FIVE INVESTMENT LESSONS FROM THE LATEST WORD CRAZE
1. BE DIRECTIONALLY CORRECT
Much of the discussion around Wordle strategy involves the strategy of the first guess. That's when each of us is playing the same board, and there is a directionally correct way to play Wordle: guesses should maximize discovering new information.
I switch my first guess up each time, but I try not to deviate too far from the freebie Wheel of Fortune letters, "R-S-T-L-N-E." I've used RATES, LINES, and NAILS.
Doing some research, I found some of the favorite starter guesses of people who are much better at Wordle than I am, some having programmed software to guide them: STARE, RAISE, ARISE, SLATE, IRATE, TARES, LARES (spirits), RALES (rattling sounds), CARES, SOARE (a young hawk), SAINE (to make the sign of the cross).
So I've been...directionally correct. I've been using most of those same letters...I know from Wheel of Fortune that these are very common letters.
Despite all that, my brother David (...and his Engineering PhD) sometimes uses ADIEU as his first guess (as do many others who chat about this online, as well as OUIJA for the same reason). The strategy here is to nail down the vowels first, take guidance on their potential usage and placement, and back into the consonants in subsequent guesses. Another reasonable, very different strategy. Turns out, there are many reasonable first guesses.
But there are also unreasonable first guesses.
OXBOW is unreasonable.
B's are rare, X's are rare, W's are rare, and O's aren't necessarily rare, but by doubling the O we get no information about other vowels. OXBOW is a directionally incorrect first guess.
Most financial advisors have a "model portfolio" that reflects their best thinking. Any honest one, who understands what drives investment outcomes, will tell you that investment portfolios can't be fully optimized: there is too much randomness and noise.
But they can be directionally correct – they can be low cost and tax-efficient, they can own stocks and bonds from all over the globe to increase expected returns, and to reduce volatility.
Examples of being directionally incorrect as an investor:
Not knowing what fees you're paying
Not knowing what the funds you own in your 401K do
Only owning stocks from the U.S.
Optimizing investment portfolio down to the gnat's ass isn't just laborious, it's worthless. Randomness plays an outsized role in investment outcomes. If you get the optimization spiel from an advisor, it shouldn't just make you fall asleep, it should make you question their investment approach.
Just ensure you're in the ballpark. RATES or ARISE or CARES...it's not worth stressing about which one. Be directionally correct.
2. MANAGE YOUR BIG SWINGS
Even if their portfolio is mostly evidence-based and supported by the academic research, many folks still like to take a big swing here or there.
They want a sidecar of Apple or GameStop stock, a Greek equities ETF, or take a flyer on the latest cartoon cryptocurrency.
I get it. Evidence-based advisors feel this too...it's exciting to not constantly be a warm-milk and dry-toast investor, even if we know that it's the approach with the highest probability of long-term success.
I mentioned that my brother sometimes uses ADIEU as his first guess...well, his other common first guess is BEACH. It's not a great first guess. Maybe it's directionally correct, but TEACH or REACH would both be objectively better.
B just isn't that great. For a random letter across all words in the English language, approximately:
2% are B
7% are T
8% are R
But BEACH is okay. Because E-A-C-H are all relatively frequent letters. My brother's B is the flyer – it's the Apple or GameStop stock, the Greek equities ETF, or the crypto play.
In a game that can potentially fill 30 squares, he's played one obvious suboptimal square, and he enjoys it (that counts for something!). On a day when it worked last week, he solved the puzzle in only 3 guesses. On other days, he's found it doesn't wreck him.
At the advisory firm where I work, while we don't recommend it, we will work alongside clients who want to take flyers. We don't need to implement a robotic portfolio that adheres perfectly to modern portfolio theory for everyone; investors are humans, and you may want to have something to talk about at cocktail parties (or to keep you up at night!).
Ideally, investors have financial plans so robust that a handful of small, suboptimal investment outcomes along the way become diluted, innocuous blips over the long-term. I would consider BEACH directionally correct. If a client really wanted to put 5% of their portfolio in a single stock, or a cryptocurrency, I wouldn't stop them (or fire them, or yell at them, or think they're stupid). The boat is still generally rowing in the right direction.
If you're wired to want to wind up for a big pitch, and take a flyer every once in a while, set yourself a hard limit (like only up to 5% of your portfolio). These sorts of investments aren't always bad, per se, they tend to just have a much broader distribution of possible outcomes. They are big swings, and that often means a homerun or a strikeout, not the singles and doubles that grow wealth prudently over time.
Go for it if you desire, just don't flex too hard.
3. ACCEPT THE ROLE OF RANDOMNESS
At some point, the daily Wordle might be BOOZY – and a lot of intelligent people, playing with a strategy that has a high probability of winning each day, will lose.
It's just not a word that plays very well to the strategies that tend to work most of the time.
And such is life. Anytime you are playing a game that has randomness involved, your outcome is not delivered solely based on your talents, or your optimized Wordle-guessing programming. We just have to make the best decisions we can with the information we have at the time.
The quality of our lives is the sum of decision quality plus luck.
Investing, like life, has a lot of randomness involved. You need to focus on the process that leads to a high probability of success, not the randomness that has influenced various outcomes and designated you a winner or loser in the short-term.
Since the pandemic started, I've spoken to just two of my neighbors about investments. One has been sitting in cash since March of 2020, and the other made $10,000 trading Shiba Inu cryptocurrency in a single day. The point here isn't that either of these might be suboptimal, but rather that neither outcome will tell you anything about skill. In their defense, it also won't tell you anything about lack of skill, either.
It's easy to imagine scenarios where both of these decisions led to the opposite outcome – sitting fat-and-happy in cash while all your friends lose money in stocks due to to a global pandemic, or losing your shirt trading crypto. But robust decision-assessment frameworks will not consider someone skillful (or unskillful) based on the outcome of a single trial.
As weird as it sounds, the impact of randomness on investment returns is such a powerful variable that we can't actually assess investment skill from investment outcomes very easily.
One of the most dangerous things that can happen on someone's first trip to Las Vegas is that they make money gambling, and want to go back for the rest of their life.
4. DESIGN SYSTEMS THAT DON'T NEED YOU
Successful investors architect successful outcomes. An often under-respected element of elite investing is that more effort typically leads to worse outcomes.
If you want to be an elite doctor or lawyer – wake up early, study hard, try to attend great schools.
But if you want to be an elite equity investor, simply buy the global stock market for a low cost, and get the hell out of the way. The logic is simple, but implementation is grueling.
I heard a financial advisor say this once:
I don't have people with money problems. I have money with people problems.
We all know how difficult picking stocks and trying to time the market is, but it's also really hard to just sit there, watch your money fluctuate in an index fund, and do nothing.
But if you believe in evidence-based investing, take a cue from Josh Wardle:
He has a day job, and then launched the Wordle website. Unsurprisingly, as a software engineer without endless free time, he focused on automating. So he presented his girlfriend Palak with another sort of game: he handed her a list of the 12,000 5-letter words in the dictionary.
According to the NYT, this was his ask:
...she would sort through those 12,000 or so words, designating
whether or not she knew them. That narrowed down the list of
Wordle words to about 2,500, which should last for a few years.
If you get into Wordle, try to imagine every morning that Josh Wardle is at the same time doing...whatever the heck he wants to be doing. He isn't working on his Wordle programming anymore. The entire thing is automated (at least for a few years). It can be counterintuitive to many people, but it's the same model for elite investing.
5. DON'T ASK A BARBER IF YOU NEED A HAIRCUT
When I worked at DFA (an evidence-based mutual fund company), clients would sometimes ask me to "give an honest opinion" about a fund recommendation – they were considering DFA versus Vanguard, DFA versus Avantis, Alpha Architect, iShares, Fidelity index funds, etc...
One of the reasons I wasn't a great mutual fund salesperson is that I don't really care about that. I cared mostly about people avoiding crappy, actively managed, expensive, tax-inefficient solutions. I'm passionate about humble investing...which can be done various ways.
You can be directionally correct, and build a great portfolio, out of multiple fund company lineups (and there are lots of good solutions these days).
I would always chuckle at this question, and my response was always the same:
Don't ask a barber if you need haircut.
Of course I had my argument why DFA is best. DFA employed me. DFA has fabulous investments...it's easy to recommend. It wasn't disingenuous.
But the Vanguard representative, the Avantis rep, iShares rep, etc...they will all say the same thing. "If I'm being honest, our fund is likely optimal because...blah blah blah."
Everyone has their story.
Here is my Wordle score from this morning:
I guessed it. First try – out of the 12,000, 5-letters words...I got it on the first try.
Total crap. In reality, it took me five tries on my phone's browser, then I played a second, fresh game on my computer's browser. Let's agree I had some prior information.
The investment world does the same thing. Want to know the best way to have a successful 1-year investment track record? Launch two funds that do the exact opposite things, and then shut down the one that did poorly, and bury it out back. Create a marketing campaign around the survivor.
The investment industry is well practiced at crafting their stories, and window-dressing their returns.
For the life of me, I will never understand why anyone would accept an advisor who places them in the funds of the company who also pays the advisor's paycheck.
There are roughly 8,000 mutual funds in the U.S. (much more if you include ETFs). Riddle me this: how is it possible that so many advisors can speak so adamantly about fiduciary responsibility, and then somehow the funds that are in the client's best interest also happen to be sponsored by the place where the advisor works?
A fund company can engineer a flawless track record...if it's allowed to close underperforming funds.
I can show you that I solved Wordle on the first try...if you let me play on a separate browser first.
Beware of incentivization. Sellers will find a way to show you what they think you need to see. It's why they say don't go to the grocery store without a list.
When it comes to investments and financial planning, knowing exactly what you need is so critical to figure out.
If you're willing to do aimless shopping, people are willing to do targeted selling.
Barbers cut hair for a living. There's a lot of information in that.