- Keynes’s ‘beauty contest’
I bet most people are already familiar with the concept behind Keynes's "beauty contest". If you're not, then you're in for a treat.
Keynes's Beauty Contest
- In the 1930s, there was a popular newspaper game that had people picking the prettiest faces out of a 100 photographs.
- Readers would look at all of the photographs and choose the 6 that they think were the prettiest.
- The newspaper would count all the choices and if your chosen 6 included all the popular picks, you will be awarded.
- In order to win, one must pick, not the faces that he or she finds prettiest, but those that he or she thinks are most likely to catch the eye of the other readers.
- John Meyer Keynes wrote about this game in 1936. Today in economics, it is known as Keynes's beauty contest.
Till this day, his concept is still an appropriate explanation of how the financial markets work. How?
- Investors act like the readers from the newspaper, using different levels of reasoning to decide which company will make a profit.
- They're not buying because they think that stock will go up, they're buying because they think others will think that stock will go up.
- Everyone is trying to buy before everyone else buys and everyone is trying to sell before everyone else sells.
- In other words, to be successful in the stock market, you must understand how people work. Hence, what professional fund managers are essentially doing are just playing an intricate guessing game.
But this concept doesn't just exist in the stock market, it exists everywhere in our daily life if we just look. In other words, you could go far in life if you correctly guess what everyone else thinks, rather than relying on what you alone think.