Story@BFBV: The Smoking Man Story

Don’t ignore base rates. Base rates are boring but incredibly useful. It’s easy to be swayed into smoking when you encounter a 99-year old man who smokes three packs a day. They questions to ask are: Of a 1,000 people who smoke, how many will live to be 99? And of a 1,000 people who don’t smoke, how many will live to be 99. Don’t be swayed by isolated examples. They are noise.

People pay 100 times earnings for a stock or invest in IPOs or buy penny stocks without thinking about the base rates of these situations. If only had thought about the average long-term returns (i.e. the base rates) of these situations, perhaps they would act more rationally.