The Monty Hall problem: Why your investment instincts can lead you astray
Many investors rely on their instincts when making financial decisions, assuming that what feels right must be correct. But history shows that gut feelings can be dangerously misleading – especially in markets driven by sentiment, like the dot-com bubble of the late 1990s or today’s mania for US and AI stocks. The Monty Hall problem, a well-known probability puzzle, offers a powerful lesson in why intuition often clashes with reality, explains Dan Brocklebank of Orbis Investments.
“The tendency to rely on instinct rather than logic is something investors should be cautious of,” says Dan Brocklebank, UK Director at Orbis Investments, Allan Gray’s offshore partner. He mentions the example of the Monty Hall brainteaser. “Imagine you’re on a game show with three doors – one hides a car, the others hide goats,” Brocklebank explains. “You pick a door. The host, who knows what’s behind each, opens a different door to reveal a goat. Should you switch?”
When the question was first posed in 1990, most believed that it was better to stick with the first chosen door, but Brocklebank point out that if you do this, you only have a one in three chance of success, whereas if you switch, your odds improve to two out of three.
Challenging market consensus
“The solution to the Monty Hall problem is a great example of a situation in which the obvious is not necessarily right,” he asserts. “Today, the same thinking is driving investors toward AI and US tech stocks, assuming their dominance will continue indefinitely. But, as past market cycles have shown, what seems like a safe bet can quickly unravel.”
The dot-com bubble of the late 1990s followed a similar pattern. “Investors were convinced that internet stocks would reshape the world, driving valuations to unsustainable levels. “When reality set in, the Nasdaq crashed by nearly 80% from its peak, wiping out billions in wealth.”
Today, the excitement around AI and US tech stocks bears striking similarities. “Many investors aren’t considering whether valuations reflect long-term fundamentals or just short-term hype,” argues Brocklebank. He believes the dominance of US stocks in global markets has reached an extreme not seen since Japan’s historic market bubble in 1990, raising concerns about concentration risk. “With 75% of the MSCI World Index now allocated to US stocks, many investors may be over-exposed to an increasingly expensive market at risk of correction.”
Filtering for signal
To avoid following trends blindly, Brocklebank contends that investors should rely on real insights instead. “To be successful as an investor, you have to be willing to do something different and see what others are missing,” he says.
A key part of this approach is filtering out the investment “noise” to find the right signals. “Despite growth in the S&P 500 of almost 14% a year over the past 15 years, this superb performance is not normal,” he says. “Moreover, the valuations of US stocks on the S&P 500 today are high relative to history and there are those who believe the huge amount of capital being spent by Meta, Amazon and Microsoft to fund AI’s expansion may disappoint.”
Why proper diversification is vital
While markets are unpredictable, there are still ways for investors to navigate them well, according to Brocklebank. “The future is more uncertain than we realise and we need to remain humble. It is critical to think about protecting portfolios against a full range of potential outcomes.”
To mitigate investment risks, proper diversification is key. “The most diversified portfolio is one that holds a bit of everything: assets from North America, Europe and the UK, Japan, Australasia and emerging markets,” Brocklebank explains. Outside the US, he believes there is better value on offer.
“With today’s market being so significantly skewed in favour of the US, the need for diversification is more acute than ever,” Brocklebank concludes. “The best thing you can do is to make sure that your assets are properly diversified.”
