How Karl Popper's Philosophy Transformed My Investing Mindset

What if I told you the key to investing lies not in what we know but in embracing what we don't know and can never know with certainty? When I say I look for investing insights everywhere, I mean everywhere. In the past, inspiration has come to me from children's books, music, literature, psychology, and more. These unconventional sources have taught me about human behavior, storytelling, and the power of creativity — all of which have shaped my approach to investing. The ideas of Austrian-British philosopher and scientist Karl Popper have recently joined my eclectic list of investment influences.

Popper is primarily celebrated for his groundbreaking work in the philosophy of science, but I've found that his insights offer profound wisdom for investors willing to think across disciplines. Investing is not for the faint of heart. It requires discipline, resilience, and a willingness to learn from mistakes. Popper's ideas provide a framework for cultivating these qualities.

Falsification

At the heart of Popper's philosophy is the idea of falsification — the notion that for a theory to be considered scientific, it must be capable of being proven false. As Popper argued, "A theory which is not refutable by any conceivable event is non-scientific. Irrefutability is not a virtue of a theory (as people often think) but a vice." In other words, a theory is scientific not because it can be proven true but because it can be proven false.

In the investing world, it's tempting to seek out information that confirms our existing beliefs and construct narratives that explain away contradictory evidence. However, Popper's philosophy challenges us to do the opposite — to actively seek disconfirming evidence and to subject our investment theses to rigorous attempts at falsification. By doing so, we can identify and correct flaws in our reasoning, improving the robustness of our investment strategies.

While investing may not strictly meet Popper's definition of a scientific endeavor, his ideas can still help develop robust investment decision-making frameworks. I had always prided myself on being data-driven and objective. However, as I began applying Popper's ideas, I noticed a troubling pattern in my own thinking. I often gravitated towards information that confirmed my beliefs while dismissing evidence that contradicted them. This realization was both humbling and eye-opening. By becoming more aware of my susceptibility to confirmation bias, I was able to take steps to counteract it. I began seeking diverse perspectives and subjecting my investment theses to rigorous stress testing. This shift in mindset was not easy, but it has undoubtedly made me a more effective investor.

Fallibilism

Another fundamental principle in Popper's philosophy is the epistemological principle that all knowledge is provisional and subject to revision. As Popper argued, "The old scientific ideal of episteme — of absolutely certain, demonstrable knowledge — has proved to be an idol. The demand for scientific objectivity makes it inevitable that every scientific statement must remain tentative forever." In other words, even our most well-corroborated theories are theoretical and open to refutation.

Embracing fallibilism has led me to adopt a more probabilistic mindset. Rather than seeking certainty, I view investment theses as provisional hypotheses to be tested against evidence. I assign prior probabilities to my beliefs and update them as new information emerges. As Popper said, "He who decides one day that scientific statements do not call for any further test and that they can be regarded as finally verified retires from the game." This iterative testing and belief revision process lies at the core of my decision-making framework.

The markets are a humbling force. They remind us, time and again, of the limits of our knowledge and the fallibility of our judgments. Popper's philosophy helps us to make peace with this uncertainty and to embrace it as an opportunity for growth and discovery. As Popper eloquently stated, "Our knowledge can only be finite, while our ignorance must necessarily be infinite." 

Fallibilism has also influenced my approach to risk management. Acknowledging the inherent unpredictability of markets, I have moved away from optimization strategies that rely on point estimates towards methods that account for uncertainty. This involves techniques like scenario analysis and stress testing. By incorporating the potential for error, I aim to build more resilient portfolios that can weather various outcomes.

Popper's fallibilism has encouraged me to embrace a more dynamic and adaptive approach. By viewing my knowledge as provisional, I can better respond to changing market conditions and learn from my mistakes. While this approach requires flexibility and a willingness to admit error, it is essential for long-term success.

Historicism

Popper's critique of historicism, the idea that there are grand, predictable patterns in human history that can be uncovered and used to make sweeping predictions, also holds valuable lessons for investors. Popper argued that the course of human history is fundamentally unpredictable, as it is shaped by countless complex, interacting factors, including the growth of human knowledge, which itself is not predictable. Attempts to develop comprehensive explanations of reality are, he believed, misguided. 

For investors, the allure of historicism can be intense. It's tempting to believe that there are simple, overarching narratives that can explain market behavior and predict its future. Whether it's the idea that markets always revert to the mean, that certain cycles invariably repeat themselves, or that technological progress drives uninterrupted long-term growth, these grand theories can provide a comforting sense of certainty. While it's essential to understand and learn from history, it's equally crucial to recognize that the past is not always prologue. Each market cycle is unique, driven by a complex interplay of factors that cannot be fully captured by any single theory.

I've developed a richer understanding by resisting historicist thinking and embracing a more eclectic, interdisciplinary approach. This has helped me identify opportunities and risks that narrower, ideological perspectives might overlook. Moreover, Popper's skepticism has encouraged me to be cautious about making predictions about market outcomes. While it's tempting to make bold claims, I have found that such predictions are unreliable and counterproductive.

Conclusion

Popper once quipped, "Whenever a theory appears to you as the only possible one, take this as a sign that you have neither understood the theory nor the problem which it was intended to solve." Popper suggests that when we find ourselves convinced of the absolute truth of a theory or explanation, it's often a sign that we have stopped engaging with the complexities of the problem at hand. We may have become so enamored with the elegance or explanatory power of our preferred theory that we have lost sight of its limitations and potential flaws.

In such moments of certainty, Popper urges us to consider that our understanding may be incomplete or that we may have overlooked important aspects of the problem. We open the door to deeper insights and more robust solutions by questioning ourselves and our assumptions. By remaining humble, questioning our beliefs, and actively seeking out alternative perspectives, we can develop a more nuanced and adaptable approach to investing that acknowledges the limits of our knowledge and the inherent uncertainty of the future.