Source: Thought Steel Imprint
01. Why can’t you keep your hands under control?
Everyone has heard of Buffett’s punch-card theory:
Imagine you are given a card with only 20 punch holes for your entire lifetime—each time you make an investment, you punch a hole, and once all 20 holes are used, you can no longer invest. This illustrates the principle that investors should carefully select opportunities and hold them for the long term.
Yet in actual investing, most people cannot resist the urge to act frequently.
Why is this the case? The answer might be quite simple:
The average retail investor tends to be well-educated, having undergone over a decade of exam-oriented training from elementary school through university. This prolonged exposure to exams ingrains an effective survival strategy in the brain: ‘You know all the questions you’ve studied, and you guess correctly on the rest.’
However, this ‘exam mindset’ leads investors precisely in the opposite direction of what Buffett repeatedly emphasizes:
What matters most in investing is not how many opportunities you seize, but how many mistakes you avoid.
Where exactly does the problem lie with this exam-oriented thinking?
02. The test-taking strategies we learned over the years
Many people may have been out of school for years, so let me help everyone recall the exam strategies we used back then.
The defining feature of such exams is that they start from a baseline score of zero on a blank paper: you earn points for correct answers, while incorrect answers receive no points but are not penalized. Your final score therefore depends solely on the questions you answer correctly.
Because there is no penalty for wrong answers, the exam carries 'zero risk,' and the optimal strategy is the simplest and most aggressive approach possible:
You must fill in an answer for every single question—never leave any blank. If you don’t know the answer, just guess.
For example, with a four-option multiple-choice question, if you have absolutely no idea, random guessing gives you a 25% chance of being correct. If the question is worth 1 point, the expected value of answering it is 0.25 points. If you can eliminate one incorrect option, the expected value rises to approximately 0.33 points.
For subjective questions, grading is typically done step-by-step: even if your final answer is completely wrong, you’ll still receive partial credit for any correct steps along the way. Regardless of whether you know the full solution, write down everything relevant to the question—you’re likely to include some correct elements. If each correctly addressed concept earns 2 points, and a 10-point subjective question is beyond your knowledge, a well-executed guessing strategy still yields an expected value of at least 2 points.
When there is zero cost to guessing incorrectly, the expected value is always positive. In such cases, the number of questions attempted can sometimes matter more than accuracy—and an aggressive, exhaustive answering strategy is optimal.
The larger the total number of questions, the greater the potential upside, making both the number of questions answered (i.e., speed) increasingly critical.
Time literally becomes points. Every question you don’t know is like a gift from heaven—when you encounter a difficult problem, pick an answer instantly and move on. Never look back, and never leave a question blank.
Also, 'trust your gut.' Once you’ve guessed an answer, avoid repeatedly changing it or overthinking—doing so only wastes time and may cause you to change a potentially correct guess into a wrong one.
In a risk-free environment, individuals tend to develop a propensity for making quick decisions and taking bold risks—focusing solely on opportunities while overlooking potential downsides and attempting to seize every chance available. This is a common tendency among many students who trade stocks and is also a key reason for investment losses.
03. Investing Is First and Foremost a Game of Preserving Points
Analogous to an exam, the rules of investing are as follows:
Your starting point is your initial capital; your investment account resembles a perfect-score exam paper that has not yet been answered, governed by these rules:
Answer correctly, and you gain points;
Answer incorrectly, and points are deducted;
Leave a question unanswered, and your score remains unchanged.
Moreover, this investment 'exam' has no syllabus, features an unlimited number of questions, and is filled with topics that go beyond any prescribed scope.
Under these circumstances, the core component of your answering strategy becomes something you likely never considered during your school years—risk management.
Taking the most common four-option multiple-choice question as an example, assume the rule is: +RMB 10,000 for a correct answer and –RMB 10,000 for an incorrect one. In this scenario, your answering strategy can be categorized into four cases:
Scenario 1: Completely unsure; probability of guessing correctly is 25%.
Expected value calculation: 0.25 (probability of correct answer) × 1 − 0.75 (probability of incorrect answer) × 1 = −0.5 million RMB
The correct strategy is: absolutely do not attempt it! Blind guessing results in an expected loss of 5,000 RMB per attempt.
Investing is not an academic exercise; not understanding something is itself a clear signal.
Scenario 2: Able to eliminate one incorrect option; probability of guessing correctly is approximately 33%.
Expected value calculation: 0.33 (probability of correct answer) × 1 − 0.67 (probability of incorrect answer) × 1 = −0.33 million RMB
The correct strategy is: firmly abstain! Even after eliminating one option, blind guessing still results in an expected loss of over 3,000 RMB per attempt.
Scenario 3: Able to eliminate two incorrect options; probability of guessing correctly is approximately 50%.
Expected value calculation: 0.5 (probability of correct answer) × 1 − 0.5 (probability of incorrect answer) × 1 = 0
Strategy: continue to abstain. Although the mathematical expected value appears neutral, transaction fees and slippage still result in a net loss, not to mention the wasted time spent deliberating.
It is important to note that many individuals, after repeatedly skipping questions, often desperately need this major question as a 'lifeline.' If the point value of this question is high, they tend to take the risk of potential deductions and gamble on it.
In actual investing, many individuals who have suffered repeated and severe losses often become highly speculative, choosing assets with high volatility (equivalent to high point values) and low confidence (around 50% probability), and using leverage to place a bet.
This is an extremely irrational behavior. The greater the loss, the more critical it is to remain calm—after all, you cannot afford another mistake.
Scenario Four: The Only Opportunity Worth Taking
You can eliminate two incorrect answers and have a clear inclination toward one of the remaining two options.
Under investment-oriented exam rules, the game is no longer about 'scoring points' but about 'preserving points.' Risk management becomes the primary consideration in investing, featuring two key distinctions from standard exams:
Feature One: 'Leaving blanks' is a hallmark of top performers.
In standard exams, numerous blank answers usually indicate a poor student; however, under investment-oriented exam rules, leaving questions blank often reflects rationality. A high-scoring answer sheet will inevitably contain many blanks.
Feature Two: The elimination method follows a 'presumption of guilt.'
If you do not understand an option, it is not an opportunity. Only answer questions you are absolutely certain about. Any choice involving guesswork or a 'feeling' should be firmly rejected.
In an exam, the goal is to answer as many questions as possible; in investing, the goal is to forgo as many opportunities as possible—less is more. This mindset aligns with what Buffett previously summarized as the 'punch-card theory.'
In a standard exam, time equals points: you must read questions quickly, trust your intuition, and if you cannot decide, go with your first instinct immediately.
However, under the investment strategy of 'answering fewer questions,' you should allocate more time to risk assessment. If you typically spend two minutes per question, one of those minutes should be devoted to evaluating risk. That minute is well spent—it saves you from wasting time on most questions that aren’t worth answering, allowing you to focus carefully on the ones you deem worthwhile. Once you decide to answer a question, strive for accuracy and eliminate any possibility of carelessness.
Of course, risk management alone only makes you a competent investor. To progress toward becoming an expert, you must focus on a more fundamental metric: expected value.
04. Experts Focus Only on Expected Value
Earlier risk management determines whether the expected value is positive. To become an expert, not only must the expected value be positive, but it should also be as large as possible.
Taleb argues that most investments involve asymmetric risks.
What does this mean? If we treat investing like an exam, the scoring system for each question is asymmetric: for some questions, the points gained for a correct answer far exceed the points lost for a wrong one, while for others, the penalty for a wrong answer far outweighs the reward for a correct one.
Under such 'asymmetric risk' conditions, the magnitude of expected value often contradicts intuition.
Scenario One: High Win Rate, Low Payoff Ratio
It’s a very simple question: you have a 90% chance of answering correctly and earning RMB 10,000, but a 10% chance of answering incorrectly and losing RMB 100,000. The expected value is still negative—you shouldn’t answer it.
It’s a very simple question: you have a 70% chance of answering correctly and earning RMB 10,000, but a 30% chance of answering incorrectly and losing RMB 20,000. Although the expected value is positive, it amounts to only RMB 1,000—hardly worth spending significant time on.
There are many companies in the market that operate in popular sectors, have solid fundamentals, and trade at reasonable valuations. However, because their fundamentals are so clear-cut and market expectations are already very high—everyone is talking about them—most people around you already hold at least a small position.
This is precisely the type of opportunity characterized by 'high probability of being right, but where the penalty for being wrong far outweighs the reward for being right.'
If results fall short of expectations, the stock price could plummet sharply. Alternatively, even if results meet expectations, the emergence of a more compelling new opportunity in the market could still cause the stock to decline rather than rise.
Scenario Two: High payoff ratio, low win rate
Conversely, with a 30% chance of answering correctly and earning RMB 100,000, and a 70% chance of answering incorrectly and losing only RMB 20,000, the expected value is RMB 16,000.
Such opportunities are more common in bear markets. During bear markets, the overall market trend is downward, so the probability of any investment succeeding is generally low. However, if a company experiences a fundamental turnaround, its upside potential often significantly exceeds its downside risk.
Under this 'payoff-ratio-first' investment framework, although most decisions may turn out to be wrong in the short term, the strategy proves profitable over the long run. The essence of a high payoff ratio is that the gains from a single correct decision can offset the losses from multiple incorrect ones.
Investing is about finding the optimal balance between payoff ratio and win rate to maximize expected value.
Scenario Three: Concentrated Bets
Under the risk management–first principle outlined in the previous chapter, you should focus on questions you know how to solve. As long as the expected value is positive, you should answer them, strive to attempt more questions, and ultimately achieve at least the market average performance.
However, if you aim to become an expert, diligence alone is insufficient. You need to seek opportunities in high-value questions and allocate your time accordingly.
Consider a question that is not particularly difficult but highly complex: it takes you ten times longer than other questions to solve. You have a 55% probability of answering correctly and earning RMB 1 million, and a 45% probability of answering incorrectly and losing RMB 800,000. The resulting expected value is RMB 190,000, compared to a typical question’s expected value of only RMB 5,000.
This question is justified based on expected value, but you must adopt a sound answering strategy—specifically, forgoing numerous other questions with positive but relatively small expected values.
Whether placing concentrated bets on a specific sector or maintaining long-term focus on a particular industry, this strategy involves bundling and deeply researching multiple assets within the same industry, then investing heavily—a deliberate effort to create high-value exam questions.
Another approach is to maintain a long-term, concentrated position in a single asset exhibiting sustained growth potential and worthy of deep, ongoing research. This stretches the investment horizon to harness compounding effects, thereby creating a high-value question. Moreover, this method can artificially enhance payoff asymmetry, as the long-term upside potential of exceptional companies tends to significantly outweigh their downside risk.
Scenario Four: Expectation Gap and Cognitive Edge
There is one type of question you would never miss:
A question that is neither difficult nor complex, requires minimal time, yet offers substantial reward: a 60% chance of earning RMB 100,000 and a 40% chance of losing RMB 50,000, yielding an expected value of RMB 40,000.
Many would say there’s no such question with both a high win rate and favorable odds.
That’s not entirely true.
This leads to another question many people like to ask: how can you possibly know the probability of getting the answer right? (We’re confident many readers who haven’t made it this far will ask exactly this question in the comments below.)
In reality, no one knows for sure. The defining feature of investing is that probabilities aren’t objectively given—they are subjectively estimated.
Therefore, what truly matters isn’t the formula itself, but whether your judgment is more accurate than the market’s.
Take the example above: if the market assesses the probability of success at 50%, it won’t act, and valuations won’t be bid up. But if your research leads you to estimate a 60% probability, you can make a buy decision.
This cognitive edge—the difference between your assessment and the market’s—is the primary source of excess returns. If your judgment aligns perfectly with the market’s, there’s no excess return to be had from that opportunity.
Investing resembles taking an exam in this regard: when everyone knows the answer, the question loses its discriminatory power. The key difference is this—on an exam, you must answer every question and avoid careless mistakes; but in investing, if you aspire to be a skilled investor, don’t waste time on mediocre opportunities where you hold no edge.
05. What Matters Is Your Expected Value
To summarize:
In school, you learn to answer more questions, but in investing, success is determined by who makes fewer mistakes;
In school, you learn guessing as a survival strategy, but in investing, guessing is ultimately punished;
In school, you are taught to embrace experimentation, but in investing, the market rewards restraint more.
School is like an amusement park: rides such as drop towers and pendulum swings may seem thrilling, but they operate under strict safety rules.
Investing, by contrast, follows the true law of the jungle: only by managing risk can you survive—but if you focus solely on risk control, you will either starve or never become a master investor.
Therefore, you must evaluate not only the expected value of an investment opportunity but also how well your own capabilities align with that expected value.
This is yet another area where school tends to mislead you:
In school, if you aim for 80 points, you might end up with only 60; if you aim for 100, you might achieve 80. Thus, everyone should set goals that exceed their current ability.
In investing, however, if your capability is at the 60-point level and you aim for 80, you may end up with just 40—because you will inevitably take on risks beyond your capacity. If you aim for 100, you might end up with only 20.
Conversely, if your capability is at 60 and you aim for only 40, you will likely achieve around 40, because the 'questions' you choose to answer will inevitably be overly conservative.
These 60 points represent your correct expectation; only opportunities around this expected value can maximize your investment capability.
Therefore, investing has never been about eliminating risk, but rather about unequally 'exchanging risk' with counterparties—identifying opportunities others cannot handle but that you can execute well, so that your returns exceed the risks you bear.
Thus, the path to becoming a skilled investor consists of two stages:
Stage One: Learn to avoid major mistakes.
Stage Two: Learn to take necessary risks in the right places.
Editor /rice