Overconfidence, Market Realities, and the Risks We Ignore
From sports betting to stock investing, why we overestimate returns—and how to make smarter financial decisions.
I had a busy week at work, so I didn’t get a newsletter out last time, and this week’s edition is a bit more streamlined. Life happens, and while I can’t guarantee I’ll publish every single week, I’ll keep showing up as often as I can with insights that matter. Thanks for reading—and as always, I appreciate you being here!
Key Takeaways
In the news: Overconfidence and Market Realities – Whether in sports betting, stock investing, or real estate, people tend to overestimate their future returns, often ignoring historical downturns and market realities. For example, sports bettors expect small gains but lose an average of 7.5 cents per dollar wagered, while long-term stock investors have faced multi-decade losses, and home prices are diverging sharply by region.
Beyond Bias: The Endowment Effect – People overvalue what they own, making it harder to part with losing investments, even when selling is the rational choice. For example, research shows that people demand nearly twice as much to sell an item as they would be willing to pay to buy it.
Building Wealth: The Financial Pre-Mortem – Before making a big financial decision, imagine it has already failed and identify the reasons why, helping to mitigate risks upfront. For example, a pre-mortem for buying a rental property might reveal underestimations in vacancy rates and maintenance costs, allowing for better planning.
Historical Perspective: J.P. Morgan’s Private Bailout – The Panic of 1907 demonstrated the risks of a financial system without a central bank, as J.P. Morgan personally organized a private bailout to prevent economic collapse. For example, Morgan locked top bankers in his library until they agreed to a rescue fund, stabilizing the banking system without government intervention.
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This isn’t financial advice, but I’ll break down ideas, provide deeper research, and share insights on topics you’re curious about. If you accidentally include personal details, I’ll remove them and keep the discussion hypothetical.
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In the news
Betting on Sports? Odds Are You’re Losing More Than You Think
A recent Stanford study reveals a harsh reality check for frequent sports bettors: optimism might be costing them. On average, regular gamblers believe they’ll break even or slightly profit from their wagers, expecting a 0.3% gain per dollar bet. In reality, they lose an average of 7.5 cents per dollar wagered. The issue is especially pronounced for parlay bettors—those placing multi-event bets hoping for big payoffs—who consistently underestimate their losses by nearly 18 cents per dollar more than single-event bettors. Despite awareness of past losses, gamblers remain overly optimistic about future outcomes, leading to persistent financial misjudgments. This highlights the need for greater caution and clearer tracking of real returns, as betting platforms’ consumer protections may not fully offset this widespread overconfidence.
Stocks Always Rise Over the Long Term—Except When They Don’t
While investing in stocks has historically paid off over extended periods, recent research challenges the comforting idea that stocks are a guaranteed winner in the long run. New analysis from Edward McQuarrie at Santa Clara University shows U.S. stocks have experienced several periods of substantial losses even over 10- or 20-year spans, including a nearly 37% inflation-adjusted loss ending in February 2009 and a 14% loss spanning the two decades ending in 1932. International markets have fared even worse, with Japanese stocks losing 64% over the 20 years ending in 2009 and Norwegian stocks down 74% over 30 years ending in 1978. For investors, the takeaway is clear: while stock market declines typically resolve within about 18 months, extended downturns can and do occur, underscoring the importance of diversification, patience, and realistic expectations about the risks of equity investing.
Housing Market Divergence: Home Values Depend on Location, Location, Location
The U.S. housing market recovery is uneven, creating stark regional disparities that could sharply impact your financial decisions. In states like Texas, Florida, and Colorado, a surge in homebuilding has led to inventories significantly above pre-pandemic levels, setting the stage for potential price declines as high mortgage rates dampen buyer demand. In contrast, inventory remains scarce in areas like Pennsylvania, New Jersey, and Illinois, where strict zoning regulations and limited construction have restricted supply, potentially sustaining elevated home prices. Buyers and homeowners should recognize that broad market averages disguise highly localized risks and opportunities—investing heavily in real estate as your sole financial strategy exposes you to greater volatility if your local market struggles.
How Much Will Tariffs Actually Cost You? It Depends on the Product
With tariffs back in the spotlight due to recent trade policy shifts, a new analysis sheds light on their true impact on your wallet. Tariffs don’t affect all goods equally: a 10% tariff on highly substitutable products like clothes or table linens may only modestly increase prices (around 2-4%), as consumers easily shift to alternatives. However, niche products like Italian wines or electronics such as gaming consoles and smartphones face almost the full impact of tariffs (up to 10%), due to strong consumer preferences and limited substitutes. The ripple effects can also lift prices of domestically produced items, as producers raise prices in step with tariffed imports. For consumers and investors, understanding these dynamics is essential: anticipate sharper price hikes on specialized products, and remain cautious about broader inflationary pressures if tariffs continue to escalate.
What this means for you:
Sports Bettors: Track your betting outcomes closely and remain skeptical of overly optimistic expectations—most bettors lose more than they realize.
Stock Investors: Maintain a well-diversified portfolio and realistic expectations; stocks generally rise over the long term, but losses over extended periods can and do occur.
Homebuyers and Real Estate Investors: Pay close attention to local housing market trends—national averages can mask significant regional risks and opportunities.
Consumers: Prepare for targeted price increases on imported and even domestic goods, especially electronics and specialized products, as tariffs take effect.
Beyond bias: The Endowment Effect – Why We Overvalue What We Own
Have you ever wondered why you’d demand a higher price to sell an item you own than you’d be willing to pay to buy it? This common cognitive bias, known as the Endowment Effect, makes us irrationally overvalue items simply because they belong to us.
Originally demonstrated by Nobel laureate Richard Thaler, the Endowment Effect describes how ownership increases our attachment to objects, investments, or even ideas, inflating their perceived worth beyond their true market value. For example, investors often cling to losing stocks because owning them makes it psychologically difficult to realize losses—even when it’s clear that selling would be financially rational.
Research shows this bias is driven by loss aversion: we feel the pain of losing something more strongly than the pleasure of acquiring something of equal value. Kahneman, Knetsch, and Thaler (1990) famously found that participants demanded about twice as much money to part with a mug they owned compared to what non-owners were willing to pay to buy the same mug.
To overcome this bias, investors should periodically re-evaluate their assets objectively, asking, “Would I buy this today at the current price?” If the honest answer is “no,” it might be time to let go. Recognizing and mitigating the Endowment Effect can prevent costly financial decisions based on emotional attachment rather than rational evaluation.
Building wealth: The Financial “Pre-Mortem” to Prevent Costly Mistakes
One of the most powerful mental tools for building wealth is the financial “pre-mortem.” It’s exactly what it sounds like—before making any major financial decision, you imagine that the decision has already failed spectacularly. Your goal: identify why it went wrong. Maybe you invested too much money too quickly, or perhaps you underestimated monthly costs or overlooked a critical risk. By visualizing these potential pitfalls in advance, you gain clarity on how things could unravel, allowing you to proactively address the issues before they occur.
Research in behavioral finance shows that we often underestimate risk and overestimate our own ability to predict outcomes. The financial pre-mortem helps to counteract this overconfidence by forcing you to confront uncomfortable scenarios upfront. For example, if you’re considering buying a rental property, the pre-mortem might reveal that your budget is overly optimistic about vacancies or repair costs. Armed with this insight, you can revise your plans or set aside additional funds to cushion unexpected expenses.
Regularly using the pre-mortem approach helps you cultivate a habit of thinking critically about financial risks and outcomes, making your decisions not only safer but ultimately more profitable.
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Historical perspective: The Panic of 1907 and J.P. Morgan’s Private Bailout
Long before the Federal Reserve existed, the United States banking system was remarkably fragile, a fact vividly demonstrated during the Panic of 1907. This financial crisis unfolded after reckless speculation in copper stocks led to a series of bank runs, beginning with the failure of the Knickerbocker Trust Company, one of New York City’s largest financial institutions. With no central bank to stabilize the economy, the financial system teetered on the brink of total collapse. In this vacuum of leadership, one private banker stepped into a role that today would seem unimaginable: J.P. Morgan personally organized a bailout that single-handedly averted catastrophe (Bruner & Carr, 2007).
Morgan, the era’s preeminent banker and financier, used his considerable influence and private resources to coordinate a rescue operation among major banks and wealthy individuals. He called the leading bankers and business leaders to his private library, literally locking them inside until they agreed to a bailout fund that would restore public confidence in the financial system. By personally orchestrating loans, facilitating mergers, and injecting liquidity, Morgan stabilized the banking sector and ended the panic. This extraordinary episode highlighted not only Morgan’s power but also the critical weakness of a financial system lacking centralized oversight or lender-of-last-resort capabilities (Moen & Tallman, 1992).
The 1907 crisis profoundly reshaped public thinking about the role of government in financial stability. It revealed the systemic risks posed by unchecked speculation and underscored the dangerous reliance on private interests—however well-intentioned—to safeguard the national economy. In response, policymakers established the Federal Reserve System in 1913, creating a permanent central authority designed to prevent panics through coordinated monetary policy and crisis intervention. Yet, despite this critical reform, debates persist today about government intervention, private bailouts, and the appropriate response to financial instability.
More than a century later, echoes of 1907 resonate clearly in modern policy debates. The 2008 financial crisis, for instance, saw central banks worldwide undertaking massive bailouts and stimulus programs, sparking debates reminiscent of J.P. Morgan’s private bailout—specifically, about moral hazard, the responsibilities of financial elites, and the limits of governmental versus private intervention. Today, as markets grapple with rising interest rates, expanding government debt, and renewed financial sector volatility, the lessons of 1907 remind investors and policymakers alike that the stability of financial markets often depends not just on regulation, but also on decisive leadership in moments of crisis.
Supporting Research:
Bruner, Robert F., & Carr, Sean D. The Panic of 1907: Lessons Learned from the Market’s Perfect Storm. Wiley, 2007.
Moen, Jon R., & Tallman, Ellis W. “The Panic of 1907: How J.P. Morgan Took Over Wall Street.” Federal Reserve Bank of Atlanta Economic Review, 1992, pp. 1–20.