Thursday, May 6, 2010

What good are puzzles anyway?

Okay, all you geniuses who solved the puzzle and realized that the Norwegian drinks water and the Japanese owns the zebra, what have you accomplished? Do you just belong to the group of people who are, as someone once snidely described me, “good at taking tests”?

John Adair’s Decision Making and Problem Solving Strategies (first published in 1997, new edition reissued by Kogan Page in 2010) is addressed to business leaders. But it’s not a stretch to extend its audience to investors and traders.

As you might imagine, he doesn’t envisage a CEO spending his time figuring out who drinks water and who owns the zebra. But puzzle solving is not without its practical merits. For instance, it can distract the conscious mind so the “depth mind” that offers up educated intuitions can work. A case in point. In a psychological experiment volunteers were asked to decide which car out of a field of four to buy; one was clearly superior. They had a fixed amount of time to decide. Half of the group spent their time studying an abundance of information about the cars; the other half were given puzzles to solve to keep their minds busy. Guess who picked the best car? Well, of course, the puzzle solvers.

But solving puzzles has limited value. The reason is that puzzles, and many kinds of problems in general, are solutions in disguise. That is, to find a solution we only have to arrange or rearrange the elements we have been given in some clever way using skills we have acquired by solving many similar puzzles. Jigsaw puzzles are the most obvious example. But most math problems are also solutions in disguise; apply a rule or two, move a few letters or numbers around, and voilĂ !

Many system builders are puzzle solvers. They start with, let’s say, price, time, and volume and then try to find some way of expressing one or more of these elements with some indicator(s) that will expose market inefficiencies. They tweak here, optimize there, and more often than not start over again; they have, they admit, come up with an unsatisfactory solution. System design becomes addictive, most likely because for the most part it is a variety of puzzle solving, though one that never has a definitive answer.

To be truly creative we have to move beyond plain vanilla puzzle solving. We have to do more than perform some familiar operations to reach a conclusion or rearrange the parts to create a whole. Perhaps we could find real connections, however fleetingly applicable, that others have not found. (Our model here could be Renaissance Technologies, though most of us would be hard pressed to rise to their level of expertise.) Or we could devise a strategy (think of Ed Thorp’s convertible bond arbitrage, highly successful until everybody started copying it) that will profit from buying an undervalued asset and hedging risk. Of course, these tasks are ever so much more difficult than ordinary puzzle solving. But then whoever won a major math prize for solving an Algebra I problem?

In the meantime there’s still good money to be made by tapping into the “depth mind.” And here puzzles can distract the trader from making bad decisions stemming from information overload.

I enjoy puzzles far too much to proclaim them worthless wastes of time!

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