Optimism and Pessimism
If you know others and know yourself, you need not fear the result of a hundred battles - Sun Tzu "The Art of War"
What are your inherent predictive biases?
Knowing those will help you understand your personal discount rate you use for life.
In the world, there are optimists and pessimists. Not earth shattering news (I hope).
Very few people are 100% committed to one side (fortunately for all of us). There are, of course, some true neutrals out there, but generally people lean more towards one side than the other over the course of their lives.
Important to note is that optimism and pessimism can mean a lot of different things. Specifically, I want to talk about what side when lean towards when predicting the outcome of things. Attitude and outlook toward events currently happening to you is an entirely different conversation. Indeed, deciding whether the events are happening to you or because of you is also its own third discussion! Moving on.
Outcome prediction matters because our predictions impact our decisions today.
Bias in our prediction set manifests as a bias in our decision-making.
Therefor, it’s crucial to know what slant (positive or negative) our prediction bias takes so that we can more accurately understand the type of decision errors we tend to make.
Naturally, our slant changes a bit under various circumstances like familiarity with a problem or industry, where we’re existing on Maslow’s pyramid at that moment, and even how we absorb the facts before us. That said, over time these factors should cancel out and approximate the value that results from our “average” decision.
Let’s be thorough with our vagueness. Optimism means you think things generally work out. You’ll tend to see more opportunity in more places rather than the potential issues and, for the most part, you’ll be more open to trying things you haven’t tried before.
Starting a new company? That’s a great chance to work on exactly what you want every day and you feel confident that you’re going to be able to build a product, find customers, and hire a team that works together well. No worries!
Pessimism is the inverse of Optimism. Pessimism means you think things generally don’t work out. You’ll see more inherent risks in more situations and focus on the value of leveraging existing technology rather than betting on untested solutions. You will usually tend to focus on making existing things tangibly better than exploring new, potentially inefficient paths.
Neither slant is good and neither are bad. They both just…are.
The key takeaway to realize though is that the qualitative descriptions above represent a (quasi-useful) numerical value. That value can be thought of as your internal bar of acceptable risk required to commit to a course of action. This is often called a Discount Rate (although it’s also sometimes known in investing as the hurdle rate).
For a commercial project, a discount rate is used to adjust the “value” of money earned in the future to be worth less than money earned today. Generally, the theory goes that there is uncertainty (surprise anyone?) between today and the future and that uncertainty lowers the probability of actually receiving that money. Additionally, money today is worth more than money tomorrow because you can do whatever you want (ie. invest in other things) with it if you have it right now.
Money you get tomorrow is just…money that you might now actually get?
High discount rates imply you have more skepticism about the chances of cash materializing from your investment into the future. Accordingly, higher discount rates in calculations effectively make money in the future worth “less” than using lower discount rates because you inherently value “sooner” money more than “later” money.
Lower discount rates imply less skepticism and a higher value of future money.
Bringing this back to our discussion, optimists effectively have a lower average discount rate than pessimists.
Both of these discount rates (optimistic and pessimistic) though are, in fact, wrong!
The true discount rate for a project (which can be understood as what the “real value” of what an investment will turn out to be which is obviously impossible to truly know beforehand) will on average end up between the optimist’s and the pessimist’s perceived discount rates.
Using our new rhetorical tool, we can apply some basic financial logic. Discount rates are what we use to evaluate whether we should commit capital and invest in projects. In this case, the projects are the things we spend our time and energy doing!
If optimists systemically overvalue their opportunities with their too low discount rates, they will overcommit to projects. More projects than expected will likely fail and the optimist will expose themselves to more downside scenarios than is necessary, but this approach tends to expose the optimist to more opportunities for upside as well. Knowing this set of conditions, an optimist should focus on avoiding scenarios that have asymmetric or uncapped downside (to limit their existential risk) and try to find opportunities with asymmetric upside.
Basically they should live their life like a VC fund.
If pessimists systemically undervalue their opportunities with their too high discount rates, they will under-commit to projects. They will miss out on more opportunities because of their bias, but less projects than expected will fail and they will likely earn more from the successful projects as well. Pessimists should realize that their minimum bar for pursuing projects is likely higher than others and should work to increase the amount of high quality opportunities in their decision pipeline to have enough of a decision universe to choose from.
Again, neither of these approaches are inherently “better” than the other, but if you’re struggling with how to approach problem solving in your own life, maybe take some advice from people smarter than me.
I hope this added value to your day.
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Note: This essay was inspired by a lesson I was taught by Gary Loveman on decision-making.