Chapter 3: Advanced Market Analysis
What is survivorship bias
Survivorship bias is when we only look at the winners or successes in a situation and ignore the failures, leading to a distorted view of reality.
Imagine you're studying the habits of successful companies and you notice that all of them followed a certain strategy. You might think, "If I follow this strategy, I'll succeed too!" But here's the catch: you're only looking at the companies that survived and thrived. You're not seeing the companies that followed the same strategy but failed and are no longer around.
This bias makes it seem like the strategy is foolproof when, in reality, many others tried it and didn't make it. To avoid survivorship bias, it's important to consider the full picture, including the failures, not just the successes. This gives you a more accurate understanding of what really works and what doesn't.
Why do you need to know about it
Understanding survivorship bias is crucial, especially when pursuing growth strategies because it helps you avoid a common trap: overestimating the success rate of a particular approach.
Growth strategies often involve investing in companies that are aiming for rapid expansion, typically in emerging industries or technologies.
When you look at companies like NVIDIA, which have successfully grown and dominated their markets, it's easy to think that similar companies will follow the same path.
However, this can give you false confidence. If you only study the companies that succeeded, you're ignoring all the others that tried similar growth strategies but failed.
This skewed perspective might lead you to believe that growth strategies are less risky or more likely to succeed than they actually are. As a result, you might invest in companies without fully appreciating the risks involved, thinking that they will inevitably succeed like NVIDIA did.
An example
Let's say you're looking at NVIDIA, a highly successful tech company known for its graphics processing units (GPUs). You notice that NVIDIA focused heavily on research and development (R&D) and decided to specialize in GPUs early on. Seeing how successful NVIDIA is now, you might think, "If a tech company focuses on R&D and specializes in a niche area, it'll be just as successful!"
However, this is where survivorship bias comes into play. You're only looking at NVIDIA, the survivor, and not considering the many other tech companies that also invested heavily in R&D and specialized in a niche but failed to achieve the same success.
These companies may have gone bankrupt, been acquired, or simply faded away. Because they didn't survive, they're not visible in your analysis. This could lead you to overestimate the effectiveness of NVIDIA's strategy, not realizing that other factors, like market timing, management decisions, or sheer luck, also played significant roles in their success.
By only focusing on NVIDIA, you're seeing an incomplete picture and might mistakenly believe that following the same path will lead to similar success.