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Business News/ Opinion / Views/  One cannot count on waking up early to achieve success in life
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One cannot count on waking up early to achieve success in life

Deterministic assertions may attract us, but, as with equity returns, it’s complex probabilities that determine real outcomes

Multiple factors cause a person to be successful and for equities to do well. Premium
Multiple factors cause a person to be successful and for equities to do well.

We are in the midst of a cult phenomenon of waking up early and crushing your day. Successful CEOs and professional athletes espouse it, podcasters are wide-eyed about their morning routines, influencers sell courses on how to do it, and self-help section in bookstores are full of hacks on how to wake up early. The often unsaid but generally well understood belief is that waking up early will make you successful in life.

Humans love stories, especially linear, straight-forward ones where A leads to B. There is no ambiguity here, as the chain of events is watertight. Reality is different, though, and every time I hear a ‘A leads to B’ statement, I am reminded of a Michael Lewis quote: “Man is a deterministic device thrown in a probabilistic universe."

Back to our early risers. We nod when we hear, “Waking up early is key to success." Linear story: A leads to B. It appeals to our intuitive sense, and we lap it up. But whenever one hears such deterministic statements, it is useful to put on a probabilistic hat. Instead of thinking of a straight line, one should think of a probability distribution; even a pie chart will do. The question to ask in such situations is, “What percentage of A leads to B?" and “What percentage of B is caused by A?"

Assuming success can be objectively defined, the relevant question is, ‘What percentage of early risers are successful?’ Apart from Jamie Dimon and Jack Dorsey, you now think of newspaper boys, milkmen and janitors. Then you ask, ‘What percentage of successful people are early risers?’ and you start considering famous late risers like Winston Churchill and Mark Zuckerberg.

Once you go down this path, there can be many supplemental questions. If, let’s say, a large portion of humanity comprises early risers, then a large portion of successful people will likely be early risers too. The cult of early morning success stories starts to lose some sheen then.

Instances of such easy correlations abound. A certain planetary alignment in your birth chart leads to certain outcomes or some batter is some bowler’s bunny. Seductive as these narratives are, one must demand an income distribution of everyone with Jupiter in their eleventh house and a Jupiter distribution of all rich people. Technical analysis and even fundamental research has been quite susceptible to such narratives. Analysts study stocks that have generated outsized return and zero in on some common fundamental attribute like high return on equity (RoE) or a valuation metric like low price-to-earnings (PE) ratio. The reverse question is rarely asked. Did all stocks with a high RoE or cheap PE generate outsized returns? What does the return distribution of stocks with such characteristics look like? How does it compare with median equity return?

(graphic:mint)
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(graphic:mint)

Or take the example of earnings yield gap as a predictor of equity returns. A large negative yield gap (i.e., when government bond yields materially exceed earning yields) is assumed to lead to poor equity returns. The logic is intuitive. When bond yields are high and equity valuations are expensive, as they are now, investor money tends to move from equities to bonds. This causes equities to perform poorly. Moreover, a higher discount rate reduces the value of future cash flows and hence lowers equity valuations. The current yield gap in India is negative 2.5%. Nifty valuations are a touch above 20 times forward earnings, which means the earnings yield is south of 5%, while government securities are yielding well over 7%. Considering daily data from 2005, we are currently approaching the bottom decile of yield gap, causing louder calls for poor market returns.

But let us go back to our trusted pie chart and ask, ‘What has been the one-year Nifty return distribution when the yield gap has been around negative 2.5%?’ (see pie chart). Surprisingly, forward equity returns have been positive for two-thirds of times at these levels of yield gap. In fact, they have exceeded 10% for almost half the observed instances. To cite one such instance, a year ago, the yield gap was at almost the same level as it is today and yet Nifty Total returns for the past 12 months have been a respectable 16%. Hence, the only significant conclusion that can be drawn from the yield gap analysis is that in over 90% of the cases, bottom decile equity returns corresponded with a yield gap in excess of negative 1.5%. However, the reverse has not been true. The yield gap today does not tell us a lot about future equity returns.

Why does this intuitively appealing logic not hold in the real world? For the same reason that not all early risers are successful. Multiple factors cause a person to be successful and for equities to do well. Rising early and yield gaps are a factor, but cannot explain even a large majority of the outcomes. So, when faced with any ‘A always leads to B’ assertion, remember to ask for a pie chart.

These are the author’s personal views.

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Published: 22 Oct 2023, 05:22 PM IST
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