Episode 26: Annie Duke - Bestselling Author and Former Professional Poker Player

29:43That's an expected value. And it's like, I could look at what the distribution of outcomes are. How long does it take me over 40 minutes to get there? And I can look at historical numbers, right? Say, how long is that? And that gets me to the expected value. But again, like if the expected drive time is 31 minutes, how many times is it exactly 31 minutes, right? Just that's my expected time over the long run, right? If I took an average of all my trips, it would average out to 31 minutes. So that's another way we could think about it in terms of time, but you can think about it in terms of things like happiness.

30:18And this is a really important idea around really great decision-making to say there are things that are qualitative in nature. What happiness means for you is different than what happiness means for me. But we can both judge like on a scale of zero to a hundred, how much, how happy do you think this would make you. And we can both make a judgment about that. Now, our answers might be different. That doesn't mean that one of us is wrong. One of us is right. It means that we value different things, but we can make that judgment. Right. So we could think about like on a scale of zero to 10, if you got to go to Rome for a week, how happy would that make you?

30:58If you went to Thailand for a week, how happy would that make you? If you went to the Caribbean for a week, if you went to the ruins in, you know, Mexico, or South America, like how happy would that make you? And we may have different answers, because you may be a beach person, and I may hate the beach. That's okay. So but you can rate it. And then you can, then you can start to calculate an expected value. One of the things that you can do is like, you could turn it into a currency and there's a few different ways to do that the rating kind of turns it into a currency but you could think about like it's really something called expected utility how much use how much value are you going to get out of the thing um and you can create a currency it's called utles people go go look it up um but another thing you could do to get you there is how much would i pay for someone not to take this away from me so that's like an interesting way to get to it right if I had a trip to Rome, how much would someone have to pay me for me to give it up?

32:05Yeah. And that's another way to get at that sort of quantification of things that feel mushier. But I think the thing that people need to understand is that for you to figure out where to go on vacation, somewhere under the hood, this is happening because you have to balance out. Like, do I want to go to Machu Picchu or do I want to go lay on a beach in the Caribbean? two really different vacations right so if you're comparing those you are actually already exploring your values uh you are in some way like quantifying this idea of like how happy do i think that each thing is making me so this just asks you to make that explicit and say how happy do i think it's going to make me and with what probability will that occur if i think about all the different vacations that i could take and that helps you get to an expected value yeah i think that that kind of idea of how much would you pay me to not do this is interesting, bringing it back to that kind of quantitative point.

33:02Some of your work, which I'm particularly interested on is specifically in when you're trading or when you're investing, knowing when to quit is extremely powerful. So what role does, have you seen like ego and identity play in knowing when to quit? And how can someone kind of limit those and be able to have a baseline, just like a kind of rational metric of knowing when to quit and decision making? Yeah. So here's the thing about all of the biases and the failure to stop is a really big one it's why I wrote a whole book about it um we particularly anybody over the age of 25 and many people under the age of 25 stick to things too long um and that's true in trading as well and it's particularly true if you're in the losses going back to the poker table right it's like when you're losing you don't want to quit because there's this concept that we can think of called mental accounting.

33:59And so let's imagine that your benchmark is even, right? Like you bought the stock at 50. So that's now your benchmark. And it's trading at 40. Your mental account is in the losses. And when we're in the losses, we don't like to close the account. We don't want to close the account in the losses. It doesn't matter if you own 20 other stocks, which of course would be the rational way to think about it. It's portfolio theory, right? but your only thing, you're only like, I don't want to sell this stock is like, then I won't get my money back, which is stupid. The reason why we know that that's a mental accounting problem is that if you buy the stock at 50 and it's now trading at 75 and then it goes down to 65, you will also feel like you're in the losses, even though you're not, you're up$15, right?

34:43Okay, so we can think about those types of biases, right? Like sunk cost and this mental accounting problem and endowment. And then those intersect in a really bad way with a lot of these things that have to do with identity, right? So we like to be seen as consistent over time. We want to feel internal validity means we want to feel like we're smart and we're good actors. And so like, if we lose or we stop something that we started, then like, what does that mean? Like, did we make a mistake when we started it? So that doesn't feel very good to us. And then we also think other people are going to judge us harshly for those decisions, even though in general, they don't.

35:20um so we have this sort of intersection of like the way that our brains just kind of like process this stuff like being in the losses and then how that intersects with identity how do we view ourselves how do we think that other people are are going to view us and that uh it all creates sort of a failure to stop on time and a failure to stop on time is really bad because if i'm holding a stock that has a lower expected value than other stocks that I could be in. Or maybe it has a negative expected value, right? I'm getting hit two times. One is I'm not earning as much as I could, or I might be losing money on the path that I'm on.

35:58But the second thing is I can't move those resources over into something that would be better. And that's true, whether it's like money that I've invested in stock, a stock that I ought to get out of so that I can move it into a better stock. But it's also true, like if you're in a job that you hate, not only do you hate that job, but you can't go get another job that you're really happy about. Or if you're in a relationship that isn't going well, it doesn't matter what you're doing. It's like there's always this problem of the cost of being on the path, but then also the opportunity costs that you're incurring.

36:29So we want to get ourselves into a place where we're actually willing to stop things sooner, right? That's generally what the goal is because most things are stacked against you stopping. The issue is that knowing about it doesn't help, but it really feels like it will. So I've had a lot of traders say things to me like, oh, yeah, yeah, you know, I know about all that stuff, right? Because they do. Like they've read Thinking Fast and Slow by Daniel Kahneman or something. They're like, I know about all that stuff. I know about those problems. So what I do is every morning I wake up and I think, if I weren't holding these positions, would I buy them today?

37:10Okay, well, I agree that that's the question that you should, like, it's true, right, that if you wouldn't buy it today, you ought not be holding it. That is true. And that's actually the test of whether you would be the test of whether you are quitting. Well, if I were an omniscient, totally objective being, right, and I were staying in a position that I would not buy today, less transaction costs, then I am subject to some sort of bias that is causing me not to quit because those two decisions should align with each other. If I wouldn't buy it today, I ought to sell it. So they've got the sort of like in that sense, the right question.

37:54The problem is that that's only the right question if your answer is going to be a rational one. And once you're actually already in the position, the answer isn't going to be a rational one. So then what happens is that you have an irrational answer to that question, but you think that you were rational about it. And then your confidence that you're actually correctly in the positions that you're in has gone up, even though the accuracy of that decision has not. Okay, so that's bad. And by the way, this is true of almost any bias, right? You can't like think your way out of confirmation bias.

38:30You can't think your way out of, you know, availability bias. Yeah. You know, you name a bias. You can't think your way out of self-serving bias. Like, it's really hard to do. So then the question is, okay, so what do you do? And the answer is that you have to do some relatively sort of structural and brute force things in order to get yourself to do it. And most of those things have to do with saying, you know what? in the moment that I have to face down the decision about whether to quit, there's too much going on for me. There's not just the problem of like, you know, I might be in the losses in my mental accounting, but also like my identity is wrapped up in it.

39:13I don't want to feel like, you know, a dummy that I got into the position in the first place. I want to get my money back, like all those things. And it's, and you just have to realize like when you're facing that decision down, you're just not going to be good at it. So what you're trying to do is create distance from the decision combined with some pre-commitments in order to get yourself in a spot where you'll actually stop more rationally. So there's two strategies. One has to do with something called mental time travel, which gives you psychological distance, which is to say, like, let's imagine that you're putting a position on, you could say, what are the signals that I could see in the future that would cause me to take this position off?

39:58The simplest version of that would be a stop loss. Simple, right? I buy it at 50. If it's training at 40, I have to sell it. Okay, that's really, really, really simple. Very, very brute force. Probably better to link it back to your thesis. But if that's all you did, if all you did was put in a stop loss and actually follow it, which is important, that would be better than nothing. But what's better is to say, look, I'm getting into this position because I believe something is going to be true about say interest rates in the future. And if interest rates are above a certain benchmark, which I'm predicting they're going to be a high enough percentage of the time to make this a good bet, then you know this is a position that I ought to like being in but if they go below that then this is a position I ought not like to be in and what happens to us is even though that's our thesis in the beginning right as we hold that position if we get into a losing position even though interest rates aren't where we want thought they were going to be we'll rationalize reasons to stay in the position.

41:10But if you actually make it explicit and you write this down and you say, okay, I'm going to put this position on by X date, right? Or any time that interest rates fall below this certain benchmark after this certain date, I must sell it. If interest rates are above, then you could say if they're within a certain band above that benchmark, then I ought to hold it. And if they get above that, maybe you would even put more risk on, right? So you're actually committing, you're saying, what are the signals in the future that I could see that would tell me that this is a trade that I ought to take off?

41:50I should take risk off. This is a trade that I ought to hold. This is a trade maybe where I should put more risk on. So you're actually sort of thinking about that now, but thinking about something that's going to occur in the future and then committing to those, what I call kill criteria, that you're actually going to act in a certain way. That really increases the chances that you're going to quit. And then if you actually tell somebody else about it who will hold you accountable to it, then that really, really, really increases the chances that you'll quit. What I think is interesting is that when I tell people about this, they're sort of like, but what's the difference?

42:27Either way, like, let's imagine the interest rates, you know, go up 50 basis points. They're like, in both cases, interest rates went up 50 basis points. Like, why does it matter? And it just turns out that it really matters if you decided in advance than if you're deciding on the fly when that thing occurs. It just really makes a huge difference. So it's such a simple thing that you can do, but it will actually get you to de-risk when you ought to more often. We've been talking about kind of rationality and making good decisions. Is there any downside to kind of being too rational and overanalyzing things well overanalyzing things isn't rational yeah so no um so actually so one of the things that i teach in my classes is when should you actually take your time with a decision and when should you not uh and believe it or not like so the way that my classes went so so i teach a class i i taught at wharton for many years and then um And then now I teach on a platform called Maven, which is like a direct to student.

43:39And it's a six session class. And I spend the first five sessions teaching them like all this structure and all this process around decisions. And then the last session is, but mostly you should go fast. So people actually do not make rational choices. Like overanalyzing is by definition an irrational thing to do. It means that you're putting too much effort into a decision that ought not, you know, deserve it. So there's two really big ideas for sort of how you figure out how much effort. The first is long-term impact, not short-term impact, but long-term impact. So you can think about like, do you know anybody like who they're in a restaurant and they're just taking, they take like forever to try to decide what to work.

44:24Right. Like forever. Right. And the thing is that if you said to them, imagine it's a year from now, like imagine that you ordered whatever you ordered this chicken and it was pretty crappy right like you didn't even finish it because it was like overcooked and yucky so and if I catch you in a year and I ask you like hey how happy have you been over the last year how much effect does the chicken have on it like it's zero right in fact if I catch you in a month that the bad chicken still has zero effect on your happiness and actually a week later it doesn't it might have some effect that day but so not a week later, not a month later, not a year later.

45:02It's a very low impact decision. Yet people overanalyze, right? Like they freak out. And the reason is that they're going to get an answer really fast and they're afraid that they're going to make a mistake, right? As if ordering off the menu is like two plus two equals four and they're afraid that they're going to answer seven. And then they're going to find out that they were wrong. That doesn't make any sense. It's like you haven't had the chicken yet. You're making a guess based on your preferences and the description on the menu. But the more important point is this, it doesn't matter. It doesn't matter to your long term happiness.

45:35So like, divide the menu into stuff you like stuff you don't like. And then I don't care how you decide, like ask the wait staff to bring you something or flip a coin or ask a friend to choose. It doesn't matter. Just choose. Right. So that's the first thing is like Like this long, this idea of long-term impact. So you can think like, don't take that much time deciding whether to go on a date with someone, but take a lot of time deciding whether to marry them. That would be a good thing to do, right? Don't take a ton of time trying to decide what intern to hire, but take a lot of time trying to decide what CEO to hire, right?

46:14That's an impact question. The second thing actually has to do with what we were just talking about, which is quitting. um the lower the cost to quit the less effort you ought to put into a decision and the reason is that one of the best ways to mitigate observing sort of bad outcomes like having things kind of not go your way is to stop what you're doing so uh the lower the cost to get out of it the faster you can go because you it's easier to mitigate the downside um once you sort of observe that now of course that means that you have to be good at quitting so you have to do kill criteria in this mental time travel and like get other people to help you.

46:52And that all helps you to distance from the decision. But, but that's the other thing that matters. So if we go back to the dating versus marrying, it's really easy to just not go on a second date with someone like that's a very easy thing to quit. But marriages are very hard to quit. They're very expensive, both like money wise, emotionally, you know, disruption and all that stuff. So take a lot more time deciding who to marry and very little time deciding who to go on a date with because the date is more quittable at a much lower cost. You can leave in the middle of it. You can be like, yeah, I got somewhere to go, right?

47:25So the sort of over analysis, people think about it as rationality, but it's not rationality in the sense that a cognitive science would think about rational, right? Does this decision actually deserve the time that you're spending on it? so what you're talking about is like what about people who are like over analytical i think but that's not right like as soon as the word is in there it's not rational yeah i have i have one more question before we kind of move on to some of your advice um but we've talked about all this are there any daily habits or practices that people can put into play that kind of make you a better decision maker over time, even if it's just like a small daily thing you do every day?

48:16Yeah. Well, one is prodigious use of pre-commitment contracts. So really kind of think about like, it's really good to think about what are your goals and then think about like, what are the barriers gonna be? Or like, if I imagine that I don't achieve this goal, like what do I think happened? And then actually commit to every day making sure like that you're doing the things that would avoid, uh, that would avoid not actually, you know, achieving your goal. Right. So, um, you know, one of the things I love is this idea of a category decision, right? So, um, let's imagine that you're trying to sort of allocate your time toward fun and studying, make a category decision, which is like, I don't play video games from 6 p.m.

49:16to 9 p.m. on school nights. Why does that matter? Because then you've actually in advance made a decision that that's not the type of person that I am, in the same way that someone might say, I'm a vegan, right? So you're sort of taking video games as an option during that time off the table. So I would say it's really important to like be very prodigious in your use of those types of commitment devices. Making those types of advanced decisions are really important. The second thing that I would say is, and this is something you can do every single day. If you really want to become a better decision maker, which partly means that you have to get better information from people, other people are very helpful in making good decisions and helping you make good decisions as long as you're actually hearing what they think so you can think about it this way like I have all sorts of biases I'm going to tend to want to think about the world in a way that like confirms what I already believe so are you but the things that you believe are the different different than the things that I believe.

50:28So what happens though, is that when we're talking to other people, we tend to tell our story and then ask them what they think. And that's actually not helpful for correcting where we might have things wrong. So one of the simplest things you can do is ask people what they think without telling them what you think first. And if you make that a daily habit that you put into practice, you'll be surprised how much more like really interesting opinions and information you get from other people. I remember having a conversation with my son when he was in high school and he was telling me he was in a fight with a friend of his and he was telling me how all his friends agreed with him that this person was a jerk.

51:14And I said to him, well, let me ask you a question. did you say to those people what do you think of so-and-so which would be neutral or did you say man he's such a jerk he's you know did this and this and this and what do you think don't you agree because in the second case of course they're saying they like you didn't actually find out what they think and of course he was like okay fine and I was like well what do you think would have happened if you had just said what do you think of so-and-so you know and he kind of realized oh oh, well, then I might actually get different, like I would have gotten very different answers to that question.

51:49So I think that that's actually just like a really important, I think it's a really important skill to start to implement in your daily life. And then the last thing that I would say is that I think that it's really easy to get very upset about things. And, you know, and I understand why, right? It's really upsetting if you get a bad grade. It's really upsetting if you lose money in the stock market. It's really upsetting if your boss is a jerk to you that day. It's really upsetting. But first of all, we're more likely to get more bad outcomes in the future if we start making decisions when we're in a hot state, when we're emotional.

52:30It's actually part of what the pre-commitment contracts help you with is they take you out of those hot states when you're making decisions. But one thing that I would say is that when you're in those spots, you should actually really think about, well, what is my goal here? And how would I actually accomplish that? Because it's important to get past the emotion and sort of wanting to satisfy and relieve that emotional state in the moment and get back to how am I gonna gain ground toward my goal? So I'll give you another example. I'll just pick on my son. He was really mad because he got a bad grade on his test, a test that he took and he did the self-serving bias thing right the test was really hard okay that's not his fault right that's like a poker play saying I lost because of the deal um the test was really hard the teacher doesn't like me you know I'm sure you've heard all this before he there was stuff on the test that he didn't teach in class you know so on so forth so it's all that stuff right none of it was like I didn't study or whatever so he was really upset and he was really like complaining to me about it.

53:34And I was like, well, do you, what's your goal here? Like, do you want to try to do better in this class? Do you want to maybe try to get a chance to retake the test or make sure that on the next test you're doing better? Or do you want to just sit here and like, tell me everything that went wrong. Right. And I did this in a very nice way. Um, and you know, he was like, no, I want to do well in the class. And that's why I think this was so unfair and I was like okay well uh what are the things that you could do that would help you to actually achieve that goal and we talked about it you know and I was like well did you go see the professor before the class before the test no what do you think would happen if you did that in the future oh well that might help right um what if you went to him what do you think would happen if you went to him with this test and you actually asked him to go through it with you to figure out what you did wrong, right?

54:26So all this is doing is, and this is a really important practice is like, okay, you're going to feel your feels, right? But then get refocused on your goals and that's going to help you to get into a calmer state that's going to allow you to start thinking about what are the things that I would actually need to do in order to cause me to gain ground toward the thing that I actually want instead of just getting mad and being reactive. Yeah, I think those are all extremely powerful and I think I'm going to start implementing them. But final question, I ask every single one of my guests at the end of each episode, if you had to give one piece of advice to a 15-year-old high schooler, college student, whatever you want to think of, a young person today, what would it be?

55:07Well, I'm going to steal from Daniel Kahneman and it relates to what I just talked about. Nothing is as important as it feels when you're thinking about it. I think that it's so important to realize that sort of two things that are related to that. You know, one thing is that you, in the moment, it just feels so big. But if you can get past that moment somewhere in the future, you'll realize it's just a small thing in, in a series of stuff that's going to happen to you. It's kind of like the chicken that doesn't matter at the restaurant with my kids, when stuff would happen and they would just feel like it was so awful.

56:00And the worst thing I would say, tell me the story you're going to tell when you're 40 and you're at the Thanksgiving table, you know, and it was always a funny story. This thing that felt so horrible and so awful. And like everything was ending when they would tell the story of like, how are they relaying that, you know, 30 years from now at Thanksgiving, it would actually turn into a funny story. So I think that's something that's really important to remember is like, it's hard to get things sort of into context of the scope of time. And I think it's particularly hard for younger people because they haven't had as much experience sort of being able to look back at other things that haven't mattered so much.

56:41But the more that you can do that, I think the happier you're going to be. because it's like that the stuff that feels so big in the moment isn't going to derail you in the same way. And I think that you're going to be happier. I think the other thing that's important to kind of understand is that the world changes. And so, you know, you should try to accept that. And what you should be doing when you're making choices is make choices that open up the most doors for you and not choices that close a lot of doors. So this is like, increase your options. Don't decrease them. So like one of the things that I love, it's a funny statistic.

57:26I don't know about now, like in the age of AI and all that, but let's, it was, you know, 10 years ago, the college major that kept the most opportunities available to you was philosophy and the PhD that created the fewest opportunities available to you was philosophy that I saw was kind of funny but you know if you're thinking about like as you go to college like what college has the the sort of broadest range of things that I could study of those things that I could study what thing is going to open the most doors for me right and you should always prefer the thing that's going to be a door opener, right?

58:09As opposed to a door closer. And then understand that it's okay to switch, right? Like when you go to college, you haven't been at the college before. If you don't like it, you don't have to stay there. You can transfer. It's not a big deal, right? If you decide on a major and you don't like it, switch. It's okay. It's actually a better thing to do. Like you're young, you have the time to do that. So I think like, you know, start being good at mental time travel and then start realizing like it's okay to just switch and do different things. And that's actually going to make you a more sort of like interesting and well-rounded and hireable individual.

58:50So always be thinking about opening doors and always be okay like saying I'm going to walk through that door instead of being in the room that I'm in now. And I'm going to go see what's in that other room. And I just think you're going to be a happier person. I think that's great advice. Thank you for coming on. I really appreciate it. This was a lot of fun. I hope you enjoyed it. I did. Thank you so much for having me. I love what you're doing. Thank you. Appreciate it.