Ted Cadsby is a corporate director, consultant and bestselling author. Ted has held several prominent positions in the financial sector, including executive vice president of Retail Distribution at CIBC where he led a team of 18,000 employees in Canada and internationally. Prior, he was president and CEO of CIBC Securities Inc., chairman of CIBC Trust Corp., and chairman of CIBC Private Investment Counsel Inc. Ted graduated as the medallist in philosophy from Queen’s University, completed his MBA at the Ivey Business School and holds the Chartered
Financial Analyst designation as well as the ICD.D designation from the Institute of Corporate Directors. Ted rose to national visibility as a passionate champion of passive investing. He has since expanded his research and writing on the frailty of human thinking, which is highlighted in his fourth book, Hard To Be Human: Overcoming Our 5 Cognitive Design Flaws, published by Dundurn Press.
In this episode, Ben, Cameron, and Dan are joined by Ted Cadsby, former executive at CIBC, author of The Power of Index Funds, Closing the Mind Gap, and Hard to Be Human. Ted brings a rare combination of experience in both finance and cognitive psychology, having helped introduce index investing to Canada before turning his attention to how human thinking itself often misleads us. Ted shares inside stories from his time at CIBC—how he tried to make the bank an indexing leader in the late 1990s, the pushback he faced, and why he still believes so deeply in indexing today. Then, the conversation turns to human cognition: why our brains evolved for simplicity, certainty, and emotion, and how those traits can sabotage both our portfolios and our peace of mind. From “greedy reductionism” and “certainty addiction” to emotional overreaction and competing selves, Ted unpacks the five cognitive design flaws that make it hard to be human—and how metacognition and mindfulness can help us overcome them.
Key Points From This Episode:
(0:04) Introduction to the Rational Reminder Podcast and hosts.
(0:18) Cameron’s story about rediscovering The Power of Index Funds and reconnecting with Ted Cadsby.
(2:21) How Ted brought index investing to CIBC and tried to make the bank a leader in indexing.
(5:58) Why assessing active managers taught Ted about randomness, noise, and the illusion of skill.
(8:42) The moment Ted “saw the light” on indexing—and why randomness, not market efficiency, is the real obstacle for active managers.
(12:54) How Ted tried to implement index investing at CIBC and the cultural resistance he faced.
(15:05) The goals of The Power of Index Funds (1999) and how he tied indexing to human behavior.
(18:49) How his indexing push created internal conflict at CIBC and ultimately led to his departure.
(23:23) The influence of John Bogle and Vanguard on Ted’s mission to bring indexing to Canada.
(26:59) Why he’s still passionate about indexing, and what worries him about private equity.
(31:44) How human cognition and philosophy led him from finance to exploring how we think.
(34:46) The “Big Five” cognitive design flaws that shape human decision-making:
1. Greedy reductionism – our urge to oversimplify complex systems.
2. Certainty addiction – craving the feeling of knowing, even when we’re wrong.
3. Emotional hostage-taking – overreacting and ruminating.
4. Competing selves – inner conflicts between present and future selves.
5. Misguided search for meaning – overextending our need for purpose.
(44:11) Why modern life amplifies these flaws and how System 1 (automatic) and System 2 (deliberate) thinking play into it.
(48:00) The human superpower: metacognition—our ability to think about thinking.
(49:57) How mindfulness and a “meditative stance” help us use metacognition daily.
(53:57) Why knowing your biases isn’t enough—emotional regulation is the real challenge.
(56:27) How to recognize triggers for deeper reflection and System 2 thinking.
(1:00:34) How systems thinking and better questions can combat our reductionist tendencies.
(1:05:57) Why our addiction to certainty fuels overconfidence and poor decisions.
(1:08:43) How humility, probabilistic thinking, and skepticism can make us wiser investors and humans.
(1:11:39) When to listen to emotions—and when to treat them as cognitive red flags.
Read The Transcript:
Ben Felix: This is the Rational Reminder Podcast, a weekly reality check on sensible investing and financial decision-making from three Canadians. We are hosted by me, Benjamin Felix, CIO, Cameron Passmore, CEO, and Dan Bortolotti, Portfolio Manager at PWL Capital.
Cameron Passmore: Welcome to episode 382, good to be with you guys again. I'm going to kick it off with a little story going back to the olden days where some people seemed to find entertaining at some level, but we had David Chilton on the pod recently and I talked about the impact that the wealthy barber had on me and my early career. Then Ben, you and I were chatting, it's got to be, I don't know, a couple of months ago.
I'm like, remember that other book that was coming to mind, The Power of Index Funds? It was written by Ted Casby and we just were riffing about that. You said to me, why don't you see if you can find Ted and have him come on?
Ended up I found Ted quite easily, reached out and he responded almost immediately saying he had followed the podcast and would love to come on. We connected and had a prep call with Ted. It's just amazing to go back to that time of the late 90s when that book came out and he was an executive at CIBC, large Canadian bank.
We were just kind of discovering the benefits and the impact of index funds. That revolution was just starting then and ETFs were just starting to come to market. I remember us sitting around thinking back then like, wow, that could be the end of our growth plan because big Canadian bank was going to dominate in this space.
That was the narrative, at least in our world, maybe not in the Canadian marketplace, but that was our narrative. Clearly, that's not how the movie played out, but it was super fun to have Ted on today and have a conversation with you guys and Ted.
Ben Felix: Ted is a super interesting guy. I think you guys have a bit of history too, right, Dan?
Dan Bortolotti: I can recall I was working with Money Sense magazine back in 2000, which at the time, it was sort of the biggest personal finance magazine in Canada. That's right around the time that his book came out and even Money Sense at the time, which later became a real sort of pioneering in bringing the couch potato strategy or index investing to Canada. Ted was even before that.
He really was at the forefront of the movement in Canada as we talk about in our discussion. It was really interesting to get his perspective about what the landscape was like 25 years ago.
Ben Felix: He talks about his roles with CIBC, which for non-Canadians that don't know, it's the Canadian Imperial Bank of Commerce, one of the big banks here in Canada. He had a bunch of really interesting roles and they're really interesting purely based on what the roles were, but also based on the time that he was there and the initiatives that he was pushing. He was trying to get CIBC to be sort of the Canadian leader in index funds.
Hearing his experience at a big bank, which as we all know, love to sell their high fee actively managed funds and the challenges that he had doing that is really, really interesting, but he was actually in a position to, and he tried to do it. He was at a position in a bank where he could have been able to and did for a period of time, get a bank to be all in on index funds.
Dan Bortolotti: They wanted to distribute Vanguard funds.
Ben Felix: Yeah, right. He talked to Bogle and tried to get Vanguard to come to Canada through CIBC, which they ended up not wanting to do. Anyway, that aspect is super, super interesting.
Ted is the author of four books. He wrote about index funds and the power of index funds. He also wrote the 10 biggest investments, mistakes Canadians make and how to avoid them.
Then he wrote two books on human cognition and psychology, closing the mind gap and hard to be human. We talk about his experience at CIBC. We talk about index investing generally as an idea, which is interesting beginning to the discussion.
Then in the second half of the conversation, we move on to his writing and work on decision-making and psychology and how that relates to investing, the lack of adoption or the challenges with adopting index funds. Ted's a super accomplished, interesting guy. I think we had a really good conversation with him.
Dan Bortolotti: Yeah, he definitely has expertise not only on the investing side, but on the psychology side. As we've talked about so many times, those two things are pretty intimately related. It's pretty hard to be a successful investor without a really good understanding of our own cognitive biases.
It's a good discussion.
Cameron Passmore: All right, you guys are good to go?
Ben Felix: Let's go to our conversation with Ted Cadsby.
Ben Felix: Ted Cadsby, welcome to the Rational Reminder Podcast.
Ted Cadsby: Thank you. Delighted to be here.
Ben Felix: Very excited to be talking to you. To kick this off, can you tell us what your roles at CIBC, the Canadian Imperial Bank of Commerce for non-Canadians, can you tell us what your roles were there?
Ted Cadsby: Sure, yeah. Just a high level. I was president and CEO of CIBC Securities Inc, which was the mutual fund arm of the bank.
Then I moved to take on responsibility for other of their wealth management businesses in Asia and Caribbean, and the investment counseling company, the bank's private banking arm, and its trust company. And my last role there was head of the 18,000 employees in the retail branch system. And so I spent a good portion of my career flying around the world, interviewing and hiring and firing investment managers.
And I've been on a number of the for-profit and not-for-profit boards, where I've chaired board investment committees. So investing runs through my veins and has for many years, right up to the present day, where I still meet and evaluate active managers in various advisory and board roles.
Ben Felix: How close were you to the actual investment products that were being distributed through the bank to retail investors?
Ted Cadsby: I, at a point in my career, I created them. Prior to being president and CEO, I was vice president of marketing and product development. And so a good portion of that part of my career was building and creating the products.
And then in the role as CEO, I obviously, you know, had a strong hand in all of that as well.
Dan Bortolotti: So, Ted, what did your work evaluating and interviewing active managers teach you about active fund performance?
Ted Cadsby: You know, it struck me as such an unusual profession, because in assessing a particular money manager's skill, it became quite apparent to me very, very early on in my career, how extraordinarily hard it was to separate noise from signal, which would otherwise translate into luck in the case of the noise and skill in the case of the signal. And, you know, the signal of a manager's potential skill is so deeply buried in statistical random noise that it's very hard to detect. And when you dig down far enough, it's rare to unearth skill that is really sustainable, that you could expect to persist going forward.
So if you're determining the likelihood of an active manager outperforming in the future, you basically have two inputs to assess. One is all the data, their performance, the risk they took, the drift of their style or how faithful they are to their style and all the numbers. And secondly, is the stories that they tell to describe their thought processes.
So you really have to develop a very good ear. And that takes quite a bit of training and years of experience to be able to really dig into the thought processes of active managers and challenge them and question them and really be able to determine if there's underlying skill there that you can rely on going forward. You know, they become very adept at telling stories.
And it's not that they're always just feeding you BS. They often truly believe what they're saying and telling you. But I can't tell you how many times I've been told by active managers right up to the present day, I will be vindicated.
My ideas just haven't been recognized by the market yet. So give me a little more time, be a little more patient. And that in itself is OK, as long as they're offering very good conceptual evidence of why they're right and why they think they'll be right, even though they so far haven't.
So it takes a great deal of scrutiny to really assess a manager's skill and have confidence in him.
Ben Felix: That point about them believing their own stories, I think is super important. I think it's often active managers often get characterized as malicious or even dumb. But I think they're actually smart.
And I think they do believe what they're selling. It's just really hard.
Ted Cadsby: Yeah, there's confirmation bias times 100 in the case of taking a position in the market, explaining your rationale. And then if it's not working out, doubling down on what eventually will work out. Because it's very hard to tell someone who's hired you, I blew it.
Everything I told you a year ago or two years ago about gold stocks or BCE or TD Bank, I was wrong. But lesson learned, let's move on. That's a very hard sell to offer to a client.
Cameron Passmore: So this next question, Ted, has been on my mind for probably 30 years since I first read your book, The Power of Index Funds. What made you actually see the light, so to speak, about index funds?
Ted Cadsby: Part of it was for sure skepticism over active management. But there was one piece of the puzzle that really nudged me. And it's not often talked about and it's often actually not understood or it's understood but not appreciated.
I think it often comes down to what I would call a bit of a red herring or about market efficiency. So you'll often hear the argument, well, if the market efficient or not, does the market reflect all the information that's available on a particular company and reflect it in its price or not? And that translates into, is the door open or closed on active management?
There's general consensus, if not unanimity among academics and among, I'm sure, all four of us that the market is not fully efficient. It's prone to bubbles. It's prone to excessive pessimism.
But can you time that right? No. Only in hindsight can you say, oh, the market was inflated or the market was a great buy because you gather information after the fact that is reflective of whether the market was oversold or overbought.
But that whole argument, as interesting as it is and as valid as it is, I think is a bit of a red herring because I think the biggest obstacle for an active manager is not whether the market's efficient and he or she could take advantage of it. It's all the unknowns that can easily swamp any information they have, any analysis they have, and even swamp the market efficiency argument. So I'll give you an example from my own career.
Going back a decade and a half, CIBC was a bank that had more exposure to subprime lending, subprime mortgages than any other bank. So long story short, one night, myself and the executive team, the senior management of the bank, were all called into the boardroom with the CEO and we were told that the bank was going to take a billion dollar write-down, that situation was going to be made public that evening, the markets were already closed at this point, and so on and so forth. And sure enough, the next day, the stock got hammered.
And the point of the story is, even if insiders aren't aware of what the surprises are, they're lurking behind the corners. And in many cases, the CEO finds out far along after the it's too late to do anything other than take a write-down. We saw that most recently with TD and its money laundering problems.
If the CEO and the insider are sometimes the last to know, how is an active manager possibly going to be able to synthesize those kinds of surprises, call them black swans, whatever you want, that have such a huge impact on individual companies and the market as a whole. So I guess it's kind of a long-winded answer to your question, Cam, which is that it really struck me that this fundamental randomness that is part of our lives in so many respects, which makes indexing interesting, and we'll get into that later, presumably, how could this fundamental randomness make active management successful over long periods of time? And I think that that is a hard one for people to really internalize because they have trouble internalizing randomness and how it affects their lives in general, never mind how it affects an investing portfolio.
Ben Felix: Yeah, it's a really interesting way to think about it. Not even market efficiency, it's just randomness that makes it hard to beat the market.
Ted Cadsby: Exactly. The unknown unknowns, the managers that just don't know what they don't know. And I'll tell you, when you leave an interview with an index manager after having asked about how they make small adjustments to do better, to offset their costs essentially, and how they manage the indexing process and what their costs are, you don't leave the meeting scratching your head.
I can't tell you, though, how many active management meetings I leave scratching my head because it's such a complex phenomenon that they're trying to manage, including those surprises, those unknown unknowns.
Ben Felix: You got the concept of indexing, I would say, pretty early and you're at CIBC, which today is not known for index funds. How did you try to apply the concept of index investing to your work at CIBC when you were there?
Ted Cadsby: I was determined when I took over the role of CEO that I really wanted to make CIBC an index fund, the index fund leader, because I was so convinced by the academic research on it, but also because I inherited a lot of underperforming funds. It's hard to market something when it's not good quality. The problem was the bank, like many banks at the time, and still to this day, were captive to their internal investment managers, and their internal investment managers are largely institutional managers, index huggers, and not doing such a good job because they tend to underperform the index, especially after fees.
So I was captive to poor quality product. My mandate was to make CIBC move from being a laggard, which it was in the mutual fund industry, to a leader. It all just came together.
Sometimes in life, things just fall into place in a way that you can see so clearly. We launched a whole family of mutual funds. We did two tiers of pricing, and I could still use the internal managers.
That was the beauty of it. I could still use the internal managers and bring them up the learning curve on being really sophisticated managers of index product at the same time. When I left the role, the 12 months leading up to that role, we had the highest sales of any fund company in Canada.
It took two years. It wasn't overnight. But at the end of the day, we were very, very successful.
Eventually, I was asked to move on to that business. A long story that we can get into maybe a little later was the people that took over the mutual fund business weren't as enthusiastic about indexing. Because it's a low-margin business, they were worried about cannibalizing their active management, and so on and so forth.
So CIBC still has a very, very strong offering today that I'm very proud of. The fact that we lost our leadership in that category, of course, is naturally very disappointing to me.
Dan Bortolotti: Ted, your first book, The Power of Index Funds, subtitle is Canada's Best-Kept Investment Secret, came out in 1999. Now, that is really early on in the indexing revolution, certainly in Canada. So at that time, what were the real innovative ideas that you wanted to communicate in that book?
Ted Cadsby: Indexing was ahead of its time at that point in Canada, but absolutely not in the US. I was simply importing it to Canada, the success of Vanguard and what they were doing in the US. But in that first book, I wanted to communicate more than just the benefits of indexing.
I really was fascinated with how unintuitive investing was and how chasing after the best-performing funds was a loser's to use the analogy that Charlie Ellis, and I know you've had him as a guest, made years ago. He had this amazing analogy that amateur tennis is a loser's game because you win by making fewer mistakes. Whoever makes the most mistakes in amateur tennis is the loser.
Therefore, the best strategy, he pointed out, in an amateur tennis game is to play defensively and let the other person make all the mistakes. His view was in investing, you got to play defensively and avoid mistakes that are so common. Indexing was one way that he felt you could do that.
I love the analogy because it applies to so many aspects of our life where we make unforced errors. I really was passionate about communicating to investors more than just the index story. I wanted them to understand how vulnerable they were, how vulnerable their minds were in thinking about investing and the kind of errors that they were prone to make.
For me, indexing was a gateway to behavioral economics and the whole field of how irrational we can be when it comes to financial decision-making, whether that's saving or spending or budgeting, gifting, donating. Money reveals the quirkiness in human beings. That's why I followed up with my second book, which is The 10 Biggest Mistakes Canadians Make.
The issue that I was uncovering and exploring, getting fascinated by was bigger than just passive investing.
Cameron Passmore: In 1999, the book came out. How were the ideas in that book received by the readers at that time?
Ted Cadsby: Well, I traveled across the country and I did a whole bunch of road shows in all the major cities and smaller ones as well. We did a really hard sell because it was difficult. You're giving a math lesson to people who aren't necessarily interested in going back to statistics 101 and probabilities.
You're literally trying to sell math, explain randomness, explain luck versus skill, how stock-picking style is going to go in a favor. Those were huge headwinds. Don't forget at that time, the most popular best-selling books at the end of every year were the ones that recommended which mutual funds were going to be the hottest and the ones you should buy the upcoming year.
Those were the best-selling financial books at the end of every year back at that time. There were three main authors, Gordon Pape obviously being one of them. Huge headwinds try to convince people that this was not a good strategy.
It was a fool's game. Forget those best-selling authors. I've got some interesting math that I want to convince you of.
I did have a huge tailwind eventually, not right away, but eventually, that made my pitch so much more compelling, which was a year within launching a whole family of index funds. They were among the top performers in each category. And so the book, combined with the publicity, the media, the marketing efforts, the roadshows, eventually all created a kind of business momentum that you just kind of dream of.
Again, luck played a very big role there. The message was well-received. It was a best-seller, but I think people who were more intellectually minded liked the idea.
The general public, it was a harder sell to make. And a lot of skeptics, of course. All the active managers and active management companies were all over me trying to poke holes in the arguments.
Dan Bortolotti: Yeah, which kind of leads to the next question. I'm just wondering how people at CIBC received the book, because as you said earlier, there's always the concern when you promote indexing that you cannibalize your own active management business. Was there encouragement, hostility, a little bit of both?
Ted Cadsby: Well, there was a lot of both at different times. It's interesting. When I launched this whole strategy, there was enormous support from the bank because CIBC was a laggard.
It was the smallest mutual fund company of all the banks. It wasn't going anywhere. And everything I was doing was helping to build the company, but just as importantly, build the CIBC brand.
So the public relations people were just thrilled to get as much publicity as they could for me. And they hired an external publicity firm to help me get the message out. And there was a lot of excitement, enthusiasm, and I had a big budget for advertising.
And then what happens? We go back to unknowns. The Apple card got upset, and a lot of people were very surprised.
Actually, the whole public was surprised at the time. I won't go into the details. A new CEO took over the bank that no one expected was going to be taking over the bank.
And he had an investment banking background, and he promoted to be the head of wealth management, the guy who was running the brokerage firm. So I went from being the darling that the CEO and the senior management team of the bank just loved to reporting to people who were not enthusiastic about this low-margin business I was pushing. They were not enthusiastic about the arguments that we're making because it didn't jive well with the brokers and the broker community who were selling active funds.
They didn't like seeing Ted Cadsby on the news every night or during the day or in the newspaper. And so I was brought to the CEO executive floor, and I was essentially given a choice. I was told, do you want to be a media darling and public educator, or do you want to be developing a career in the bank with the eye on a top job?
Because they're mutually exclusive, and you've got to pick one. So I thought pretty fast, because you don't have time to say, I'll get back to you on that one, because that would undermine the credibility that I already was struggling to prove to them. And I essentially reassured them that I love public education, but it was first and foremost a means to the end of doing the job I was hired to do, which is to build the business and build the brand.
And so their response was, well, that's great. Let's see if you can build other businesses out of the spotlight. So I was moved out of the mutual fund business and took over Trust Company and International and other stuff that I'd mentioned previously, and ultimately promoted to head of their retail system.
So on the one hand, that worked out well. On the other hand, I was sad to leave the success and the momentum that I had built. So it's kind of a two-part answer to your question, depending on the timing of how things were happening at a particular moment.
Ben Felix: That's really interesting. Did the public notice that you disappeared?
Ted Cadsby: Yeah. There was actually an article in the Gold Mail by Derek DeCloyte. The title of the article was CIBC Puts Whiz Kid in the Closet, which at the time didn't do me any favors.
It was very amusing. And of course, it's in my scrapbook today. But that was after this conversation with the senior bank executive that I was choosing a career in banking and not in media.
So that didn't help. They're always a little suspicious that I was doing side interviews quietly under the table, which I was not. I wasn't.
But to answer your question, that's how visible I was and how visible the message was at one point that when I was told to keep out of the spotlight, it was conspicuous.
Cameron Passmore: I'll tell you, Ben, that I noticed, I remember distinctly noticing at the time because we were just learning about the benefits of index funds back then and ETFs. I remember the book coming out and thinking, oh no, CIBC is going to own this space. There's more competition in our space that we could see with such an obvious opportunity.
This is 99, just as the tech boom is really rolling. So absolutely, we noticed for sure back then that Ted had gone silent.
Ted Cadsby: That's really interesting.
Ben Felix: I love your stories about that, Cameron, about how this going fee-based and using index funds was the most obvious thing ever and where the industry was going back in 1999 and here we are, still not there.
Cameron Passmore: Still not there.
Ted Cadsby: Yeah, it's true. It's amazing. It's amazing.
Ben Felix: You mentioned Bogle and how you were just basically importing his ideas to Canada. What influence did him and Vanguard have on your mission to bring these ideas and these products to Canada?
Ted Cadsby: I can't exaggerate John Bogle's influence on my thinking. He was unequivocally and obviously the pioneer in the retail indexing space. I was lucky enough to get to know him a bit over time.
He wrote a nice blurb for my book. I had lunch with him twice, once in the Vanguard Valley Forge famous cafeteria that he used to eat in every day and then once here in Toronto when we were speaking on a conference together. He was really into nautical themes, as you may know.
I remember he brought me into his office and he was showing me all these ships that he had models of and explaining in great detail the history of the ships and their place in the wars and various wars. I didn't share his passion. I could barely keep up and wasn't that interested, but he was so engaging because he was so passionate about it.
I felt a little badly for him at that time. He was, at that time, senior chairman. I think that was his title.
He was essentially being pushed aside, squeezed out a little bit by his hand-picked successors, I understand. It was Jack Brennan, who was running Vanguard at that point in the late 90s, early 2000s. His hand-picked successor was Gus Soder, who I know you know and I met down there as well.
They had different ideas about the business. He was shuffled off to head up a research function at Vanguard and kept out of the day-to-day business. It's a very difficult transition to make.
There were two points of serious tension between him and the new management team, one of which I agreed with, one of which I didn't. He was very, very upset that Vanguard was expanding its active management business. I agreed with him on that.
I thought it was off-brand and kind of peculiar and try to have your cake and eat it too. I was fully on side with that. The other thing that he was equally adamant against, which I did not share, was ETFs and going into ETFs.
He was just stubborn on this view that ETFs encouraged day trading. That was contrary to everything he believed in and wrote about for years, which was buy and hold. I guess the counter argument I had and still have to this day is, day traders are going to do day trading.
The beauty of ETFs is not just their liquidity, but unlike mutual funds, you know what price you're buying in at. You know what price you're selling at. With a mutual fund, you wait to the end of the day to find out what you bought or sold at.
I just thought ETFs were such an improvement over that lack of transparency. He was very, very stubborn on that issue. The bigger point is, a brilliant man, absolutely brilliant mind, enormous influence on me.
So much so that I worked very hard to try and bring Vanguard to Canada, where CIBC would be the distributor of Vanguard product. We had a number of meetings, not including John, because he was off, as I say, at that point in time. At the end of the day, Vanguard wanted to do it their way.
They didn't want to distribute through a bank. I understood that in Canada today, as we all know. That was another disappointment in my career.
I won't say we got close, but we had a lot of meetings. That really was my vision and dream, that CIBC would be the sole distributor of Vanguard. Then, Cam, wow, that would have just blown your head apart if I was successful at doing that in around 2000, 2001 or so, but that, it just wasn't meant to be.
Cameron Passmore: In the 25 or so years since that period, have your views on index investing changed much?
Ted Cadsby: I would say I'm at least as passionate about indexing as I was. I've had another couple decades of interviewing and assessing active managers, and my views haven't changed much at all. But I will say today is a little different, more so just in the last five years.
The U.S. market in particular, I'm not as worried about concentration of the big, large caps, but about their correlation. I worry about the correlation about the MAG-7. That's a problem that's not difficult to solve for.
You just have to wait a little bit more in the mid-market indices and the small market indices to balance out and get the better diversification. It's one thing I'll just jump in on, is that some people think indexing is simple and straightforward, and you just buy the world index, or you just buy the Vanguard bundled balance index product. There's nothing fundamentally wrong with that.
But indexing product lends itself to a much more sophisticated approach to portfolio management and asset allocation. It's not basic. You can be quite sophisticated in your approach to index investing.
There's only one other thing that really worries me. I'll tell you what really worries me now, and it's kind of tangential, but I'll explain how it's related. Private equity.
In the last five years, everyone's saying you got to get into private equity because that's where the action is. I'm skeptical about private equity for all the obvious reasons, the fees, lack of transparency, liquidity, et cetera, et cetera. Personally, advice that I give, I'm staying on the sidelines of private equity for the most part.
What concerns me vis-a-vis passive investing is that the investable universe for the retail investor is not as broad as it was prior to the boom of private equity, because a lot of firms now don't have to do IPOs. Even big firms like OpenAI can grow and be funded without having to go to the market. That means that retail investors are missing out on some of the investable universe, and I don't think the solution is to rush into private equity.
I wish I had a silver bullet to solve that problem. That one is different than anything I've struggled with in the last 25 years, and one that I haven't quite figured out how to solve for. It's a tricky one.
Ben Felix: There's a paper on that that I will send you, Ted, that's quite interesting. It actually argues that it is the high quality of the listing of the merger market in the United States that has resulted in the decrease in listed companies. When you adjust for companies that have merged with listed companies, you get to somewhere that is close to what the pre-1996 number of public companies was.
Their argument is that you're not actually missing anything. It's just representative of a really well-developed merger market in the United States.
Ted Cadsby: I would like to see that research. That's an interesting point, but it doesn't necessarily, from what you've said, and I'll read it, obviously, it doesn't invalidate the concern that there's a lot of good, interesting growth companies that we can't access now because they're becoming more and more dependent on private equity funding. It could be the case that the number of companies is the same.
I'll read the research. I'm still kind of concerned about a whole space of interesting investment opportunity that we're locked out of unless we participate in private equity, which is being retailized, as you know, which makes me nervous, again, because I'm not convinced of the product itself. I'd love to see that particular research. Thank you.
Ben Felix: I think that's a fascinating topic, whether we're investors in public markets are missing out on opportunities. I think even just looking at the returns in private equity, I don't think we're missing much.
Ted Cadsby: I agree. That's one of the reasons I'm on the sidelines is I think that, to your point, actually, we're going down a bit the rabbit hole. There's so much cash chasing deals in the private equity space.
The quality of companies, the quality of the deals by necessity, mathematically, has to deteriorate. It's a very good point, Ben. On the one hand, we're missing out.
On the other hand, what are we missing out on? Maybe it's stuff that, at this point in the cycle, there's not such an opportunity cost and missing out on those opportunities.
Ben Felix: I don't know. There's lots of interesting stuff in there. Then even just looking at, forgetting about private equity returns, just looking at the IPOs.
Historically, IPOs have not been great either. It's an interesting topic. You had this early book on index investing, which is really interesting.
You've also written a ton about human psychology and cognition. I want to shift to that. As you mentioned earlier, you got into this larger topic by way of index funds.
I'm going to start there. In the face of the mountain of evidence that we've been talking about, what do you think the slow adoption of index funds, for context, in Canada, we're still, what, 80% active in the fund market. Even in the US, it's 50-50, but that's probably lower than it should be.
What do you think that slow adoption tells us about the foibles of human thought?
Ted Cadsby: That's the amazing thing that indexing is the tip of the iceberg. I alluded to this earlier. Once you start understanding passive investing and why people are so hesitant to buy into it and believe it, then you start to uncover how the human mind works and what all the foibles and vulnerabilities are to it.
I had a long history. I did a philosophy degree before I did my MBA, my CFA, and everything. I was originally planning to do a PhD in philosophy, but one of the things that discouraged me is I just became confused by the fact that you could make a very logical, convincing, rational argument in philosophy on one side of a topic and make an equally convincing, rationalogical argument on the other side, and there was no way to reconcile the two.
Actually, if you can go even further back, it probably may be one of the reasons I went to philosophy. In grades 7 and 8, I would have been 12 and 13, my best friend was a Jehovah Witness, and he was the smartest kid in the grade, if not the school. Absolutely brilliant guy.
We would spend hours and hours and hours discussing God, the Bible, why evolution in his view was not true and couldn't be true, and all of these theological beliefs that I hadn't been raised in that I found confusing, baffling, mystifying. I eventually came to realize as a 12- or 13-year-old young man there was no amount of logic or rational argument that I was going to offer him that would convince him otherwise. His family wanted me to come to their church and so on and so forth, so the friendship eventually petered out.
I had that root of fascination with human thinking and why it seemed not quite as reliable or clear as I would have expected it to be, and that took me through philosophy. Then again, indexing blew it open for me. You know, that's where I really started to go deeper into what is it that is so unusual about humans and our thought processes.
We're basically off-the-rack primates with souped-up brains. So, you know, from here on down, from our brows on downwards, we're just basic apes minus the fur, plus the ability to stand up and walk a little longer, a little further than other apes. But this part up, from our brow up, is what really differentiates us because of the concentration of neurons in our cerebral cortex and unusually large prefrontal cortex, etc., etc., etc. But the complexity of everything from the brow up, as awe-inspiring as it is, it's highly imperfect. What's interesting to me is we're not attuned to how imperfect these complex brains of ours are. That's really what led me down the path to exploring the nature of human thinking.
Dan Bortolotti: We can confine the discussion to investing foibles, if you'd like. But just sort of more generally, what are the biggest cognitive flaws that humans grapple with?
Ted Cadsby: The big five, as I label them. So, the subtitle of my most recent book is Overcoming Our Five Cognitive Design Flaws. I stumbled with it because it wasn't my choice.
I wanted it to be why other animals have it easier. But the publisher, as you may know, always has final say on the title. So, they wanted something a little more tangible, concrete.
So, the big five, as I label them, they all relate to investing in one way or the other, but they're very interesting on their own. And they're interesting in how they impact our lives more generally beyond indexing. The key point is that all five are powerful tools that help us make sense of the world and are crucial for our survival.
But when they're extended beyond their natural usefulness, that's when they can be harmful to us. They're not bugs, per se, because they're flaws that are embedded in design features that are very, very useful on their own. And so, these features become flaws once they're extended into a realm of complexity.
So, the big five are design features in our brains that help us survive, but they become flaws when they're overextended into a world that they're not well suited. And I'll go through them very briefly, and then we can go deeper on them if you want. So, starting with number one, green reductionism.
And I'll explain the term in a second. But the point is that we simplify absolutely everything we think about. And we have to, because we couldn't make sense of things if we didn't pick out from the world the signals that we need and organize them in a way that has meaning.
And this organizing of bits of information is in the form of cause and effect relationships. And simplifying all this data is a basic design feature for us. And that's all great as far as shortcuts go, but we're at a high risk of oversimplifying and misrepresenting reality when we run into complexity.
And I love the term green reductionism, which I can't take credit for. I first read about it in a book by a philosopher, Dan Dennett, who used the term in a very narrow sense to describe how scientists and philosophers reduce complex phenomena to overly simple explanations. But I think the term applies much more broadly to so many aspects of our day-to-day lives, because our very nature is to reduce all of reality to very small, discrete, digestible bits where simple causes create simple effects.
And we are greedy in how much we want to reduce complexity. And the most basic example, to bring it back to investing, the most basic example is using an active manager's past performance to predict their future performance. That's a very basic example of how oversimplifying gets us into trouble because we're greedy reductionists.
So that's number one. I'll try and be a little more concise as we go through them. And we can do deeper dives on any of them or all of them, whatever you want.
But number two is certainty addiction. So we want answers, we're programmed our brains to find answers. We want to know as quickly as possible how things work because an indecisive caveman is a dead one, obviously.
And our rush to conclude therefore is a brilliant survival strategy with the many scenarios we confront that are straightforward and easily accommodate our intuitions about them. And we figure things out at lightning speed with a great deal of confidence in our first assessments. And that all works great for us until we run into complex scenarios where rushing to certainty morphs into the design flaw of overconfidence, meaning we're at a high risk of feeling confident about our conclusions when the confidence is not warranted.
And I'll tell you one, and again, we can go deeper, but here's a key point I'll make now that I think a lot of people don't appreciate, and it stems from the work of neurologist Robert Burton, among others. And that is that knowing is a feeling. Now, most people don't appreciate that knowing is a feeling.
Certainty is an addiction because we crave the feeling of knowing. Some psychologists refer to this as the feeling of rightness. And it's such a strong and powerful feeling that feeling right to us is often more important than being right, especially if being requires a lot of work and effort and patience and trial and error and persistence that we don't have the energy for, we're not interested in.
If we can get a quick hit of the feeling of knowing right away, then why bother with the laborious process of investigating further? I'll move to design flaw number three. This one's obvious to everybody more so maybe than the first two, which is emotional hostage-taking.
We are designed to react swiftly and strongly to threats to motivate us to take action with fundamental design feature suited to our survival. But of course, we're all prone to becoming overreactive, and we are very overreactive creatures. We're far more emotional in so many respects in our lives than benefits or suits us.
And even compared to other animals, we're emotional hysterics. Part of the success of emotionality stems from our unique proclivity for excessive unproductive rumination. Our minds will just chew things over and over and over like, the analogy I like is a cow chewing its cud over and over and regurgitating its food into its mouth and then chewing it up and swallowing again.
We literally do that with our minds. It doesn't take much for us to get caught in an eddy of swirling grievances and complaints and injustices and self-righteousness and vindictiveness. Ultimately, we become hostage to our overactive limbic systems.
So that's cognitive design flaw number three. And then number four, little more esoteric, competing selves is what I call it. This arises from the design feature that we are very good at adapting flexibly to different people in different situations.
And we do this by pulling out different sides and personalities of ourselves. But this feature can morph into the flaw of what I call fractured psyches, where we have competing drives within us that clash and burden us with inner conflict. And this is something as basic as the war between the part of us that wants a second piece of cake and the part of us that wants to skip dessert in order to be healthier and slimmer.
But it also is much more pervasive than that. And other animals aren't burdened by these conflicting desires and motives, let alone the kind of self-loathing that humans are capable of.
Ben Felix: Sorry to interrupt. Is that like Hal Herschfield's work on your future self and how the present and future self don't see eye to eye, which can lead to poor decisions?
Ted Cadsby: Exactly. And I know you had a great episode. Well, you've had him on a few times and there's a great episode with Hal on future selves.
So we probably don't need to dwell on this one because he did such a good job talking about it. The concept is my take on it is a little different than Hal's, but very, very complimentary. The question about competing selves that we have to ask is not who is the real me because we can have a long talk about authentic me and authentic personality and how we're divided and blah, blah, blah, blah, blah.
I don't think the relevant question is who's the authentic me. I think the relevant question we need to ask ourselves is, who is the me I aspire to be? I think that's a much more powerful question.
And it relates to who is the me I envision myself in the future? How is the future me going to judge the actions I take today? What is that best self that I want to exhibit today that my future me will be very proud of?
So yeah, we can go deeper on that one, or people can listen to the episode with Hal that really covered the topic very well. But I identify it as one of the big flaws of human thinking and the challenges that make it difficult to be human. So last, last but not least, and maybe even more esoteric than any of the others is our misguided search for meaning.
I don't think our search for meaning is misguided, but I think the question, what is the meaning of life, is not the correct one to ask. Again, going back to the design feature, we are constantly trying to make sense of things, and this is a fundamental design feature of ours, but it can morph into a struggle to find overarching meaning in our lives and make sense of our impending deaths, which is obviously a conundrum that is very unique to human beings. The philosopher Martin Heidegger wrote that other animals are at home to a greater extent than we humans are.
And I kind of like that idea, and it's reflected in Albert Camus, who wrote that other animals belong here in a way that tortured humans do not. So I have a whole section in the book that compares humans and other animals and how they have it easier. That's why I want the subtitle to be, Other Animals Have It Easier, which the publishers weren't that keen on.
But the point is that the other animals' brains are in many ways better adapted to the environment they live in, and their brains are much less complicated, so they don't suffer internal conflict the way we do. And I think we can safely assume pretty much that they don't struggle with the search of meaning in their lives. So those are the big five.
We overspy, we're overconfident, we're overreactive, we're conflicted, and we sometimes feel lonely and lost and lacking meaning in our lives. But there's fixes for these flaws, so it's not all doom and gloom.
Cameron Passmore: It's a great list of five, and I'm curious, Ted, how does this modern world that we all live in possibly exacerbate these flaws?
Ted Cadsby: The basic idea that I know you're familiar with is that our human design evolved over millions of years in an environment that was very harsh, but it was straightforward. Sometimes people don't quite zoom in on this. It was a harsh environment, but the signals and the cause-effect patterns that we needed to distinguish and be clear for survival, they were all there.
There's nothing ambiguous about a charging tiger. So our simple view of the world, which we rarely second-guessed, that we were very confident in, was well-matched to those kind of straightforward problems, those threats and opportunities. We relied on cognitive shortcuts that were adaptive for thousands of years by our farming ancestors and hundreds of thousands of years before that by our hunter-gatherer ancestors.
And all of that changed in literally an evolutionary instant when we created this complex world of ours where the shortcuts are not as reliable. That happened in virtually no time at all. Again, the whole rabbit's hole didn't go down.
But when apes started walking and then caught on to how to use fire to cook their foods, it meant there was so much more energy that could be devoted to growing these complex brains that we have today. And yet, the complexity of the brains, which created the complexity of our worlds, haven't quite kept up with how to think smarter about this new world. There's a bit of a nuance I'm going to play out here for a second.
The writer Nassim Taleb describes a distinction between mediocristan, where events are fairly predictable because they're captured in standard normal distributions. He contrasts that with extremistan, where there's more extreme and unpredictable events. I love that dichotomy, but I like to simplify it a bit and call it world one and world two, because I argue in my books that all of our design is geared toward thriving in world one and not as well suited in world two, which is more complex and more unpredictable.
And where the signals are not as clear, the patterns are not consistent from one event to the other, the feedback we get by interacting in world two is dirty. It's not as clean and easy to learn from. See, in world one, we can develop very strong intuitions about things because we get repeated chances to interact in ways that are consistent and we keep getting the same clear feedback.
In world two, it's much harder to get clear and clean feedback, so it's hard to develop intuitions that are reliable. The other reason I like world one and world two terminology is because it matches up with automatic thinking, which suits world one, which psychologists generally call system one thinking. World two, more complex, automatic thinking doesn't work as well.
We need more deliberative, thoughtful thinking, which psychologists call system two thinking. So you got system one that works well in world one, you got system two that works well in world two, but we're not very adept at applying system two because system one is our dominant default system and it's a bit of a bully. It will plow through with that confidence and simplifying without a lot of hesitation.
That's one of our big problems is that this automatic thinking is poorly calibrated to complexity and it's not adept at promoting our overall happiness much of the time. Finally, it's oblivious to its own weaknesses. It's not easy being human.
It's hard to be human. That's my main thesis of the last book, hard to be human.
Ben Felix: You set up some pretty big problems for us humans there, Ted.
Ted Cadsby: What makes you- Thank you very much for having me.
Ben Felix: In the face of all those issues, what makes humans uniquely suited to overcome their own flaws that you just described?
Ted Cadsby: Well, we've got one secret weapon that is unique to us and that's the human form of metacognition. Metacognition is the ability to think about thinking and it allows us to self distance in a way that other animals can't. We can literally remove ourselves from our own thought processes and look upon them as if from the outside.
Other animals have a shallow form of metacognition but nothing close to what we do when we think to ourselves, maybe I'm not thinking about this problem right or maybe I'm overreacting to this a little bit or my brain is slow and foggy right now. Maybe I should get something to eat so I can concentrate better or why am I so anxious about this situation that really isn't that threatening when I think about it? Metacognition is an extraordinary feature of the human mind such that we can take our thinking as an object of consciousness.
Just as we can analyze anything, any external object, we could also analyze our own thinking processes and this recursive feature is very unique to us and allows us to control where we put our attention. Animals don't have control over where they put their attention. The secret sauce is the metacognition.
It's a special talent but like any talent it requires a lot of effort and a lot of practice. It doesn't just come naturally to us. It's not our default.
System 1 does not engage metacognition. We're always on autopilot unless we intervene with metacognition. In fact, coming back to Nassim Taleb, he has this great quote that we are in need of a cunning escape from ourselves.
He doesn't call it such but I call it metacognition being the cunning escape that he identifies as a need to escape from ourselves.
Dan Bortolotti: So how do people set themselves up to engage in this kind of metacognition? It's, I guess, a conscious effort to think about thinking about thinking.
Ted Cadsby: Well put, actually. That's very well put, Dan. Yeah, I mean, how do you escape from yourself?
How do you distance from your own thinking? I'm reluctant to use common buzzwords because they can be very off-putting and very misleading. But I'll say that I like to call it taking a meditative stance.
So it's not full-on meditation, which is commonly thought of, but it's a stance that employs mindfulness or distance from self that is fundamental to meditation but not meditation per se. So there's a variety of ways that we can, as humans, invoke a meditative stance that enables metacognition. First and foremost, we can just take a deep breath and focus on our breaths as a way to distance ourselves a little bit and slow down, take control of our attention.
And after you've slowed down, you can say to yourself, look at me, all agitated or uppity or anxious as a quick way of self-distancing. It's very corny. For me, it works.
I do it a lot on a given day. Look at you. Look at you, Ted, all uptight about this traffic jam you can't do anything about.
And as corny and silly as it sounds, it's a good, quick way to distance yourself and start seeing yourself in a more critical way. And often, I think we really need to catch ourselves and slow down and ask ourselves, would I benefit from just slowing down here a bit and pausing because I'm plowing ahead with certain feelings and thoughts that maybe aren't capturing reality the way it really is. Taking a mindful approach, a meditative stance to our day-to-day living, I think is the way to invoke metacognition.
And again, it takes practice. It's something you got to do. It's a muscle you got to build every day.
Cameron Passmore: So you have to expand on that, Ted. What role do you think meditation can play in engaging metacognition and perhaps overcoming some of these other flaws? Do you see a role for meditation?
Ted Cadsby: Absolutely. It's interesting. Meditation is such a broad and even ambiguous concept.
I liken it to exercise in a way. If someone says to you, do you exercise? And you say, yeah, I do.
Then you haven't revealed much information or they haven't gathered much information because exercise could mean walking around the block once a week or it could mean meeting a trainer five times a week to push you to the hardest limits that you're capable of. And the analogy there is that there's so many different forms of meditation. That's exactly why I prefer the terminology meditative stance.
But having said that, Cam, personally, I do try to make a habit to close my eyes a couple of times a day and just see where my mind is at. And if I can think about how I'm thinking of things and is it as constructive and useful and helpful to me as I'd like it to be. So meditation is a very useful form of unhooking yourself from your thinking, which can otherwise dominate everything that's happening in your brain.
And we're so in condition to live inside of our own thoughts, it's hard for us to just float above them. And meditation in and of itself is a very good form of being able to unhook fully. But as I say, there's different forms of meditation and you don't have to really believe in meditation to buy into the idea that a mindful meditative stance towards your thinking can be very helpful.
Dan Bortolotti: So Ted, I know that being aware of cognitive biases is, I guess, the first step in trying to overcome them. And certainly I've seen this with investors and even in my own behavior. Once you learn to identify them, then you can identify them on the fly.
You can see, oh, I'm making a mistake about the anchoring bias or confirmation bias. But I'm wondering if there are some ways that we're wired that just can't be overcome in the sense that even if we're aware of the cognitive bias, it doesn't necessarily improve our behavior. And the one that jumps out for me is loss aversion.
You can read about loss aversion and understand that our tendency is to feel losses more acutely than gains. But I'm not sure that helps us change our behavior or feel those things any less.
Ted Cadsby: That's a very good question. I think loss aversion, I should say, is part of a bigger schema of challenges we have as humans that are very hard to overcome exactly as you say, Dan, even if you understand them. And the most obvious that comes to mind that I think loss aversion is a part of is our emotional being, our emotional reactions.
So I think loss aversion is part of a bigger challenge that we have where just knowing and understanding the problem is not good enough to solve it. And I think the bigger challenge that loss aversion is a great example of is emotional regulation. Our emotions are strong and we can understand that maybe we haven't quite got the situation quite accurately depicted.
We can understand that our emotions are disproportionate to the situation that we're in. And loss aversion would be an example of that. And yet it's a real struggle to wring ourselves in.
The one thing we do know about emotional regulation is that emotions do dissipate. They have half-lives and our job is in a sense to shorten the half-lives of our strong emotions. And sometimes we just have to override them as hard as that is.
Loss aversion would be, Dan, I would suggest something you just have to override by taking action despite the regret you might feel doing it. It's kind of tantamount in my mind to having the urge to do something or say something that you know might not be helpful because you're really angry at someone or you're really upset about something, but your wiser self is telling you, just zip it, just hold back. And as hard as that is, this feeling of being irritated and angry and want to do something will dissipate.
And if you can ride it out for a little bit, you're usually much better off than just quickly responding to all of these emotions that can so easily bubble up within us. So I think you make a very important point, Dan, that just knowing about a flaw and a foible in human thinking doesn't necessarily solve the problem. The hard work is often just the discipline to do what you know is right and to manage the discomfort of persistence of some of those harder emotions that are tricky to manage.
Ben Felix: Continuing on that topic, Dan, what triggers should people look out for to know that it's time to turn on their system to thinking?
Ted Cadsby: That is exactly the trick there is to know my automatic thinking is not serving me right now. And it's a good segue because one of the obvious is strong negative emotions. You know, those are an alarm to us if we're really angry or irritated or frustrated or impatient or anxious.
All those are cues that some metacognition would probably be helpful and some system to thinking about the situation we're in and whether we really want to act on it or just hold off and make sure we've got all the facts straight can go a long, long way. Strong negative emotions are almost always, almost always a cue to invoke metacognition and system to thinking. As a general rule, if you're feeling a strong emotion, that is a cue to be mindful and meditative about what's happening and pausing and looking at yourself and your thinking and really invoking that system to creativity to make sure you've got the facts straight.
A second trigger is a little less obvious to us. It's whenever we confront something that's complex that we don't have really fine-tuned intuitions for. I get nervous when people say, well, I just listen to my gut because your gut is very good in straightforward world one where you've developed rival intuitions because you can learn some and develop expertise in world one.
Where complexity is concerned, anything, complexity in your lives and your job and your relationships, government policy, on and on and on, that's where your intuitions are not as reliable. And so complexity can be and should be a trigger to invoke system to thinking as well.
Dan Bortolotti: So Ted, to go back to the sort of five design flaws that you talked about originally, and one of them being this reductionism or instinct to simplify things too much, at least in an investing context, what are some of the main problems that could stem from that instinct?
Ted Cadsby: Well, the two main issues of oversimplifying is we under-interpret because we don't go hunting for key information that is not really obvious. And we over-interpret by attributing too much signal to random noise. Go back to the same example of active management.
The overreaching problem is oversimplifying. We're under-interpreting by not digging and asking hard questions about the thought processes that reveal the thought processes of the active manager and confirming and understanding what it is about today's decisions that they are confident in that might have changed a year or a week from now or might change in the future. So we're at high risk of under-interpreting if we don't really drill down on the active management thought process.
But we're even more vulnerable to over-interpreting by just looking at performance numbers, including risk analysis and anything to do with statistics. They're a good starting point, but we're very inclined to make a type 1 error in that case. So again, another rabbit hole, maybe we postpone talking about it.
But this notion, I think, is so crucial to understanding human thinking, type 1 and type 2 errors. Type 1 error is false positive, where we are overreacting to noise. One benefit, one silver lining of COVID was that we all got a little bit better educated, the public at large, about what a false positive and what false negative is.
So you get a COVID test and the test reveals that you have COVID, even though you don't, that's a false positive, which is a type 1 error. And that means we're overreacting to something that doesn't exist. Well, a type 1 error occurs when you're assessing an active manager and you think there's skill there based on the performance that you're looking at, and maybe even the story you're being told, but there really isn't any skill there.
It's just noise. And so we want to be very diligent about avoiding type 1 errors, because that leads to overinterpretation or overreaction. Maybe I'll just pause there for a second and we can move on to other topics besides just oversimplifying.
Cameron Passmore: I want to go back to your first flaw, the greedy reductionist. How can we systematically deal with that reaction we have to the complex systems that we all live and interact with?
Ted Cadsby: There's a number of ways. I'll hit on maybe three, all of which I think I've touched on in different ways. The first is by adopting a systems thinking mindset.
So system thinking assesses cause and effect in a much more deep and sophisticated way than our automatic system 1 thought processes do. So our automatic thinking generally relates cause and effect in a very simple way. You've got a big cause, you've got a big effect, and the arrow is straight from cause to effect, and there's nothing complicated about it.
Well, that's okay if a tiger's running at you, or you're hungry and you eat something to satisfy your hunger. The cause-effect relationship there is very basic. In a complex world, in world number two, as I call it, the causes all affect each other.
They all impact the effect. The effect impacts all the causes. And you have to have a systems mindset to analyze the whole structure of what's happening.
Even on a more basic, simple level, when you're interacting with somebody, there's a system there, right? They're influencing you in a certain way by what they're saying, the content of their speech, the way they're saying it, their mannerisms, and then you're influencing them, and a relationship evolves, emerges out of that. And sometimes, especially in a romantic situation where there's tension, that can get pretty heated very quickly.
And you always have to step back and think, how am I contributing to this system that is being created with this other person? So on a very basic level, that's an example of how a systems mindset can help you take a more sophisticated approach to thinking about cause-effect than our automatic thought processes, which would generally just think, oh, that person is bothering me because they're a bad person. So system thinking is one way to reduce this greedy reductionist tendency of ours.
Another way which is related to it is question asking. We're not that good of question askers. I've sat on a lot of boards and obviously a lot of management teams, and the one thing I've kind of discovered in parallel with active management and my learning around active management is that teams, be they teams of managers or directors on boards or executive teams, they're very prone as teams to thinking that is not as coherent and constructive and useful as we might otherwise think, because teams are vulnerable to a whole set of cognitive vulnerabilities. And one of the problems there, without going too down the rabbit hole, is we're not very good question askers.
We don't persist with questions if we think we've got answers that superficially make sense, or if we think other people are getting impatient with our questions that don't understand where we're going. So question asking is really key to developing and fostering the systems mindset and a way of tackling complexity with greater sophistication. And maybe I'll just mention one last one that I've already alluded to.
We really have to get better at understanding randomness and the character of randomness, especially the streaky nature of randomness. Random events clump together, which is precisely why picking out winning active funds is so fraud. I'll ask you a question.
I'll ask you all a question. If I'm flipping a coin six times, what are the odds of getting four heads or four tails in a row within that six flip? So I got a coin, I'm flipping it six times.
What are the odds of four tails or four heads in a row in any of those six flips? This ballpark.
Dan Bortolotti: Sounds like a Ben question.
Ben Felix: I was going to say, it sounds like a Cameron question.
Cameron Passmore: That's so easy. We'll let Ben answer it, Dan.
Ted Cadsby: I'll answer it and see if it surprises you. It may not surprise you. It's near even, it's 47%.
So it's almost, not quite, it's almost 50-50 odds that you can get four heads or four tails, one or the other, in a six flip experiment. The other old chestnut that you've heard a thousand times and I pull it out all the time when I'm doing presentations is, you've got 23 people in a room. So try and picture 23 people in a room.
What are the odds that just two of them, just two of those 23 share the same birthday? And the answer is an astounding 51%. There's better than 50-50 odds of two people sharing the same birthday, not same age, same date, same birthday date, you know, September 11th or March 3rd, as someone else.
Better than even odds, which is astounding. But it's only astounding because we underestimate the streakiness, the clumpiness of randomness. And that is something that I have written about and thought about.
And we talked earlier about the headwinds of trying to convince people. That is one that is very, very difficult to convince people of. We want to gravitate to, oh, it's an interesting coincidence.
There must be something going on in the air. I had a friend actually just this weekend saying, the moon must be doing something because of this, that he was looking a bunch of coincidences together. We underestimate just how clumpy randomness is.
And if you really want to be a complex thinker, coping with complex problems, you have to understand the streaking nature of randomness.
Ben Felix: Yeah, it's really interesting. Can you talk about why our desire for certainty is problematic? And if you can touch on how it's related to overconfidence?
Ted Cadsby: I argue we're addicted to certainty because we feel very uncomfortable if there's something that we don't understand that we think we should. That is something that's important. This discomfort motivates us to figure out what the mysterious Russell in the bush is, or the confusing betrayal of a friend, or the promotion we didn't get.
Not knowing is out of control feeling that we are psychologically motivated to eliminate. The feeling of knowing, that warm, comforting feeling of knowing is an internal signal that we have restored control. And it's because the discomfort of not knowing is so poignant, so powerful that we crave this feeling of knowing.
And the problem, to answer your question, Ben, is that certainty locks down our search for explanation. System one will lock down and call it a day when it thinks it's got an answer. And it will go to the first reasonable answer that satisfies its condition.
So that's called satisfying, right? That's what economists and behavioral economists call satisfying. You take the first satisfying solution that presents itself.
When we shop for a house, we are satisfying because we wait until we find the first house that meets our criteria. We don't look at all the houses in a city. We look at a subset, and we land on the first one that we make a bid on that satisfies our conditions.
So satisfying is a very important design feature. But it becomes a flaw when we're dealing with complexity, because it means we lock down on the first solution that makes a little bit of sense to us, at the exclusion of all kinds of alternatives that we don't expend the energy to explore. And so that leads to being overconfident.
If you're dealing with complex situations, and you lock down on the very first explanation that you think makes sense, well, this manager's outperformed for 10 years, and he has a great story about how he's done it. You know, I'm going to lock down on all other possibilities, and I'm going to be confident that I'm going to put a lot of money with that fund company because of that conclusion I've drawn based on past experience. We're missing out on the bigger picture, therefore are overconfident.
That's the link to overconfidence. We are overconfident in these simplified early conclusions that we're drawing. So we really have to fight against overconfidence when it comes to dealing with complex situations.
It behooves us to be much more humble than we tend to by nature be. System one is not humble. System one, which is our automatic thinking process, is egotistical.
It just thinks it understands things when it often doesn't.
Cameron Passmore: So what can we do to overcome that overconfidence? Do you have a tip?
Ted Cadsby: Daniel Kahneman, a psychologist named Kahneman, had an interesting terminology that I liked, but I think I can improve on. I can't improve. I'm just joking.
I can't improve on Daniel Kahneman in any shape or form. But he had this idea that was causal thinking versus statistical thinking. The way he described it is we bring simple causal thinking to many of our problems where we need to think of it more statistically.
I love the distinction he's drawing. I prefer terminology like intuitive thinking versus probabilistic thinking. I think we have to get much better at thinking probabilistically because system one dichotomizes.
It just thinks of the world as true or false or good or bad. System two is much more nuanced when we can engage it and pull it into action because it will think probabilistically and not just high likelihood or low likelihood. But if I had to assign a probability to my beliefs, what would it be?
Do I think I'm 30% likely to be right? Would I be 70% likely to be right? I often ask these people, and they're quite taken aback, but it's quite helpful if they say, oh, no, I know you should turn right here, or I know that this street is going to be jammed and going to be much longer to take.
We should just ignore ways and go with my gut. I'll say, well, okay, are you 50% confident in that belief? Are you 70%, 30%?
It really forces people to back up and think about their assumptions and alternative perspectives. A quick tip would be to try and force yourself to be a little more probabilistic in how you think of problems. That forces us to be a little more sophisticated and skeptical.
That's the second thing I would offer. Humility, thinking probabilistically, and the last one is we ought to be a lot more skeptical when we're in world two than we are. The reason is, as I've alluded to earlier, we're very prone to type one errors.
We're very prone to thinking there's signal when there's just noise or interpreting noise as signal. We're prone to overreacting. We're prone to false alarms that mislead us into misrepresenting reality or misunderstanding it.
If you maintain a skeptical mindset, aware of how humble you are, and this goes back, I think, to your question earlier, Dan, about how hard it is to fight some of these things, even if you know about them. If you can try and maintain a level of skepticism about things you read, things you believe, things you're told, especially in this day of information overload, then I think you're going to be a much more sophisticated thinker than your system one would otherwise allow you to be.
Ben Felix: Emotional regulation and when to use emotion as a signal to engage system two thinking, how do you think people should decide whether to ignore an emotion, try and deal with it, or lean into it, invest in it, and try and learn from it?
Ted Cadsby: I think every day we have an opportunity at least once, at least once, to ask ourselves, is this an emotion that I'm feeling that I want to invest in or divest myself from? The underlying problem here is negativity bias. So one of our design features is that we're designed to survive and therefore we're designed actually to make type one errors because we'd rather err on the side of assuming there's a threat than make a type two error, which means that we're just saying, there's nothing important here and get eaten by a tiger.
So the negativity bias means our emotions skewed being negative. I'll qualify it by saying that we have a positivity offset, which means most of the day for most of us, we're generally neutral or mildly positive. Well, how can that be the case if we have a negativity bias?
The answer is that we feel negative emotions much more than we feel positive ones. So even though we have a general positivity offset during the day, pain when it occurs is more painful than pleasure is pleasurable. Failure stings more than success feels great.
Losses, Dan, to your question about loss aversion, losses upset us more than gains excite us. Criticisms have more impact on us than compliments what others. We weigh negative traits in others more heavily than their positive traits.
And strong emotions generally persist longer than positive ones. So we're not always miserable because of that positivity offset. But the negativity bias can cause us to have very negative, strong emotions come up.
And that is the point at which we are triggered, hopefully, to invoke system two thinking and ask ourselves, is this something I want to act on? And if so, what's the plan? Or is this something that I should really let go?
Because when I think about it, it's kind of an overreaction to the situation. And when I play the tape out, I can see it's not really going to be helpful to criticize this person or lash out of this person or intervene in this situation that doesn't really need my intervention. So when we take this mindful stance and step back and look at ourselves and look at the situation more broadly with a systems mindset, we can determine whether an emotion is something that we want to invest in or divest in.
Divest in means tolerating the short-term discomfort of the emotion, which eventually dissipates. Investing means coming up with a plan. It doesn't mean shooting off the email right away or screaming at someone that's really irritating us.
It means developing an action plan that once we've gone through the thinking of that, we can then take forward and do something about. So I think that the crucial idea here is exactly how you phrased it. When we're confronted with a strong negative emotion, knowing our negativity bias, we have to ask ourselves, is this emotion something that's useful and constructive and something I want to create a plan to act on or is it something that I should just take the opportunity to pause and backburner and let it dissipate a bit because no good can come out of it as I think through it.
Cameron Passmore: Our final question for you, Ted, to cap off this thoughtful conversation, how do you define success in your life?
Ted Cadsby: Well, it's a penetrating question and I think it's one that people don't give enough thought to and it's a deep question. I think it deserves a deep answer. I'm going to be a little controversial maybe here and say that I have mixed feelings about the question itself for only one reason and I think that it runs the risk of soliciting responses that can be a border on perfunctory or even virtue signaling.
The controversial part or potentially controversial is I want to suggest that I personally don't believe that meaning or purpose in life or success as we define it needs to be defined by something that's greater than oneself. I think that can be and is an important aspect for many of us and certainly for myself it is, but having said that, if someone wants to, for example, spend their days painting in their basement art and never intend to show that art and then define their success by how good of a painting they've created, who am I to say that that is not a worthwhile measure of success? So there's many facets on how anyone should define success and I'm going to go with a slightly more selfish version, which is what that preamble, I guess, was all about, which is to say that one of the key measures that I hold for myself as a measure of success is personal growth on all levels.
Intellectual personal growth, psychological growth, spiritual growth and for me it's an important value to keep growing as a human being on a whole variety of dimensions. I don't think everyone should aspire to measure their success on growth. In fact, it's a bit burdensome, it's a bit obsessive even and it can be exhausting, but I think everyone defines values for themselves very individually and for me I would just not feel I was successful as a person if I wasn't constantly stretching myself.
Cameron Passmore: That's a good answer. Ted, I'm so glad to reconnect it or connect it with you after so many years of following your work, so thanks for joining us today.
Ted Cadsby: Thank you so much. Real pleasure to be in here today and enjoy the conversation and discussion with all of you.
Ben Felix: Thanks, Ted.
Ted Cadsby: Thank you.
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