How to Protect Yourself From Stupid People

One of the human race's greatest enemies... 'The Basic Laws of Human Stupidity'... Are you stupid?... How to protect yourself from stupid people...

Most physicists would argue that nothing beats the strong nuclear force...

By that, I (Kim Iskyan) am talking about the bond between protons and neutrons in the nucleus of an atom. It's 100 times greater than the second-strongest force in physics – electromagnetic force, which binds atoms into molecules.

Both these forces trounce the force of gravity. That force is still powerful, though... It keeps the Earth, the stars, and the solar system in the same galactic neighborhood.

On a different plane, Albert Einstein – who knew a thing or two about forces as one of the greatest physicists to ever live – once said that "the most powerful force in the universe" actually involved your money... He was talking about compound interest.

In the end, these are all powerful forces. They all play a role in making the Earth spin.

But on a day-to-day level, another force is as powerful as any of these...

It's stronger than anything offered by science, any government, or any military. It operates as if in total unity – though it's an unorganized group, without a leader.

Throughout history, this force has caused more harm – and done more to impede mankind's well-being, progress, and happiness – than anything else on Earth.

It's everywhere... And it's almost impossible to defend yourself against.

And even though we may not realize it, you (and I) may be part of the problem. I'll get to what I mean by that later in today's Digest, but for now...

I'm talking about human stupidity.

Stupidity may be one of the biggest existential threats to humanity... and to our way of life as we know it.

I know that's a big claim – and an unusual one to make in the Digest. But today, I'll explain how stupidity is one of the human race's biggest enemies, and one of our greatest challenges, in every aspect of life... including our finances and investments.

And the only way to overcome – or at least survive – the enemy is to know it...

True stupidity isn't what you might think...

It's not merely about doing dumb things or holding baseless opinions. From time to time, we all do dumb things...

We might be absent-minded, overconfident, or uninformed. We might do something stupid simply because we just can't help ourselves. ("I'll have just one more gin and tonic, please.") And then there's the kind of stupidity characterized by unfounded and baseless – but strongly held – opinions. ("Stocks always rally in May!")

These garden-variety examples of stupidity are relatively harmless. We do something dumb... We might feel silly about it... And then we move on.

But there's a big difference between harmless inanity – and hardcore, toxic stupidity.

What is stupidity then?

In 1976, an Italian economic historian named Carlo Cipolla – a grandfather of the small field of "stupidity studies" – wrote an essay called "The Basic Laws of Human Stupidity."

A cross between tongue-in-cheek satire and scholarship, it was at first published privately in a limited print run for friends and family. Two decades later, it became a bestseller when translations into Italian and other languages went into print... and then again in 2019, when it was finally published in the U.K. and the U.S. for the first time.

Cipolla's basic premise – the foundation of stupidity – is that a stupid person does things that hurt or disadvantage others... even if he doesn't derive any benefit from his actions, and although he may even suffer himself from his own actions.

To reasonable people, it's irrational to do things that hurt others without benefiting yourself in any way. As Cipolla explains, that's the crux of stupidity...

Our daily life is mostly made of cases in which we lose money and/or time and/or energy and/or appetite, cheerfulness and good health because of the improbable action of some preposterous creature who has nothing to gain and indeed gains nothing from causing us embarrassment, difficulties or harm.

Nobody knows, understands or can possibly explain why that preposterous creature does what he does. In fact there is no explanation – or better there is only one explanation: the person in question is stupid.

We've all been there...

The customer-service representative who seems to take pleasure in booking you on the wrong flight...

The colleague who doesn't keep the rest of the team informed...

The hedge-fund manager who takes on absurd levels of leverage and blows himself up – while destroying billions of dollars in shareholder value...

The politician who thinks the world is his stage, and nothing else matters...

The list is seemingly endless.

They're not careless, thoughtless, having a bad day, or in a difficult situation. Rather, they're stupid. And – to paraphrase the 1964 Supreme Court effort to define pornography – if you're not sure what I'm talking about... look around with this in mind, and you'll know it when you see it.

But Cipolla's definition of stupidity has nothing to do with intelligence, upbringing, or profession...

He takes a distinctly "un-woke" view that human beings are either born stupid or not... It's like blue eyes, six toes, or a particular type of blood.

According to Cipolla, you can't learn yourself out of stupidity... raise yourself above it... or overcome it. And it has nothing to do with social class or profession.

Over the course of his academic career, Cipolla wrote more than 20 books on economic and monetary history, with a focus on post-Middle Ages Europe. And he takes special aim at his fellow academics, as well as Nobel prize winners... The same fraction of all of them, he says, are stupid.

Stupidity isn't situational. And it knows no boundaries of culture, language, or upbringing. So it follows that stupid people are found everywhere – in any subset of society, as Cipolla explains in the Second Basic Law...

Whether you move in distinguished circles or you take refuge among the head-hunters of Polynesia, whether you lock yourself into a monastery or decide to spend the rest of your life in the company of beautiful and lascivious women, you always have to face the same percentage of stupid people.

And what is that percentage?

Far more than you might imagine, Cipolla warns in the First Basic Law... which maintains that "everyone underestimates the number of stupid individuals in circulation." Cipolla doesn't estimate a specific percentage of stupid people in the world, since, well... it would be an underestimate anyway.

Not everyone is stupid, of course...

According to Cipolla, everyone who isn't stupid falls into one of three groups...

"Bandits" do things that hurt others, to their own benefit – like, say, a thief. Though focused on self-enrichment to the detriment of others, bandits do relatively less damage to society as a whole than stupid people... That's because they're at least looking to improve their own position, even if it's at someone else's expense.

"Helpless" people enrich others – inadvertently, usually – at their own expense, through their own actions. These are the folks who through their own naivety – not positive works – benefit others, and make themselves poorer while doing so.

Finally, "intelligent" people manage to do things that help themselves – as well as others. They're the only people who actually enrich society as a whole, and who push civilization forward.

No one is purely one thing or another, of course... But everyone has one dominant characteristic. And everyone is at the mercy of stupid people.

And unfortunately, stupid people won't die out anytime soon...

You might think that stupidity would, over time, become extinct. It's a negative trait that doesn't contribute anything positive to humanity, after all.

Charles Darwin, the English naturalist who is best known for the theory of evolution and natural selection, believed that a species becomes extinct when it can't compete with other species... or when there's an environmental force (like climate change) that kills off a species.

But stupidity is the cockroach of attributes – it will survive rolled-up newspapers, Roach Motels, and nuclear war. Stupidity overwhelms, survives, and propagates.

And maybe even worse, stupid people will support further stupidity. As Cipolla explains, stupid people can vote...

Elections offer to all of them at once a magnificent opportunity to harm everybody else without gaining anything from their action. They do so by contributing to the maintenance of [the same level of stupidity] among those in power.

No matter which way you personally voted in the last presidential election, you're probably nodding in agreement right now. And that brings me to the next question...

Are you stupid?

Like morning breath, we'd all like to imagine that stupidity is something that afflicts others... but that we're immune. But just like we're unlikely to notice our own bad breath, we can't really tell if we're stupid.

Cipolla, who died in 2000 at age 78, doesn't tackle this question in his book... Maybe he worried that his readers might not see the humor in it.

But stupid people don't try to be stupid. They simply are.

Like the rest of us, stupid people don't view their motivations or actions as stupid. Stupidity doesn't allow for the rational introspection that would lead someone to conclude... "Yes, in fact, I am stupid."

However, it's not so bad. As an October 2020 article in Commentary magazine about the field of stupidity explains...

One of the paradoxes of Stupidity Studies is that the more you confront actual stupidity in everyday life, the more infuriating it is, whereas the more you contemplate it in the abstract, the more amusing it becomes.

Stupid can still be funny. And the way to stay sane is to keep away from it as much as possible.

And you have to be careful... Everyone is a potential victim of stupid people.

Cipolla's Fourth Basic Law explains that stupid people always do more damage than non-stupid people think they will... because the non-stupids are too rational to anticipate the irrational. As he writes...

One may hope to outmaneuver the stupid... But because of the erratic behavior of the stupid, one cannot foresee all the stupid's actions and reactions and before long one will be pulverized by the unpredictable moves of the stupid partner.

It doesn't help that bandits and intelligent people, as Cipolla writes...

... make the mistake of indulging in feelings of self-complacency and contemptuousness instead of immediately secreting adequate quantities of adrenaline and building up defenses.

To go a bit beyond Cipolla's treatise, perhaps the best way to foresee, and fight, stupidity is to behave like a defensive driver...

We're taught to assume that the other guy on the road doesn't see us... will take the corner too fast... is going to run the red light... will pass without being able to see oncoming traffic... and will generally do things that might hurt us, others, and himself, with no discernible benefit to anyone.

In other words, assume everyone else is stupid and work back from there...

What should you do when you identify stupid? Don't engage with crazy... Don't try to convert them... Just walk away.

You can also try to temper your reaction to stupidity with "Hanlon's razor." It's a rule of thumb that states...

Never attribute to malice that which is adequately explained by stupidity.

In other words... don't assume the other guy is out to get you. Instead, start with the premise that he's just stupid. He doesn't mean you harm... at least, not you personally. He means harm to everyone.

When it comes to the markets...

Cipolla's vision of stupidity suggests that stupid investors are happy to only break even... and want everyone else to do the same. And if they can cause losses for others, all the better.

Look at the ongoing Archegos episode, which my colleague Dan Ferris wrote about in the Digest last Friday. Here's a truly stupid investor who destroyed tens of billions of dollars in value – and bankrupted his own hedge fund in the process. This is an unfortunate example of stupidity at work in markets... It's the worst possible outcome for everyone involved.

The challenge for the markets is that stupidity overwhelms...

If one stupid person can be a problem, a herd of stupid people (say, lots of investors) is invincible.

They'll wind up doing what is ultimately worst for everyone involved. And they'll overpower – and convert – any intelligent people unfortunate enough to get caught in their midst.

Stupidity is irrational – but in different ways.

If all stupid people behaved the same way, it would be easy enough to figure out their pattern. If you could reliably predict how a mass of stupid people were going to invest, you could get ahead of them – and sell out to them.

But let me paraphrase classic Russian novelist Leo Tolstoy, who wrote...

All happy families are alike; each unhappy family is unhappy in its own way.

In the same way, if intelligence is predictable and rational, stupidity is irrationally different each time.

The best way to make money from stupidity is to avoid it as much as possible...

Whatever the herd is doing, you can be pretty sure that it's stupidity at work. That's true whether it's buying GameStop (GME), spending millions of dollars for a digital token, or dumping solid blue-chip stocks to pour money into some other trendy sector... and otherwise ignoring investment truths that have withstood the test of time.

And when you've identified stupidity in the markets, run the other way. (And certainly don't let stupidity manage your money for you!)

Stupid investors can make money... for a while. We've seen that happen in the examples I just mentioned.

But at some point, things will crash down on them. And you don't want to be caught in the crossfire when that happens. You want to make sure you're safe from stupidity.

In contrast to the herds that drive stupid bubbles, intelligence travels its own path and thinks for itself. Not all contrarians are intelligent, but you'll find a lot more non-stupid investors in their ranks.

Still, just to be sure, learn to protect yourself from the downside of others' stupidity...

For example, in addition to avoiding the impulse to make money by copying stupid people, use a trailing stop loss on your stocks. That will cap the damage to your portfolio if stupid people turn your intelligent investments upside down.

It's a simple way to protect yourself when you're surrounded by stupidity.

New 52-week highs (as of 4/7/21): Facebook (FB), Alphabet (GOOGL), McDonald's (MCD), Microsoft (MSFT), Invesco High Yield Equity Dividend Achievers Fund (PEY), Starbucks (SBUX), ProShares Ultra S&P 500 Fund (SSO), Vanguard S&P 500 Fund (VOO), Waste Management (WM), W.R. Berkley (WRB), and Alleghany (Y).

In today's mailbag, more feedback on Tuesday's Digest about European banks turning away cash... Do you have a comment or question? As always, e-mail us at feedback@stansberryresearch.com.

"As we are big admirers of your thoughts and publications for years, it was quite interesting to read some arguments about European stocks these days. We want to add some further thoughts...

"It's not really new that German and Austrian (our home base) banks charging negative interest rates for deposits. They've been doing this for around four to five years on bigger deposits and declined their 'hurdle amount' every year. German banks are more restrictive in this case than banks in Austria. So it's not a new thing here in central Europe. What we can see here (Salzburg/Austria) is that a lot of money is going into real estate – new or renew. In our area, home prices skyrocketed in 2020 by +20% from an elevated level.

"A good amount of money in the stock market is already invested – especially from institutional investors. When investors buy stocks here, international diversification is king. Many money managers are allocating their clients' money based on MSCI World weightings or close to it. So for every Euro invested in stocks, 40 to 60 cents are going to U.S. stocks (good news for u folks).

"From our view, investors coming from their saving accounts are pretty conservative here. It means they first choose a 70% bonds and 30% stocks or 50% bonds and 50% stock allocation, still accepting the negative yields of EUR bonds in their portfolios.

"They are not going straight into equities and for sure not solely into European ones. We think that these investors don't know how to handle short term volatility in the stock market and could also leave the stock market very quickly – and so adding more volatility to the stock market.

"Your point on the valuation gap to the U.S. is completely true. Our thoughts on this point are that there is always a gap between U.S. stocks and European ones on index basis, which can be explained by the fact that European indices are dominated by financials, consumer discretionaries and industrials.

"If you compare the STOXX 600 Index to its own history based on PE or PS, European stocks are within valuations we only saw in 5% to 10% time since 1999. Not really cheap within its own history.

"Our last point regarding European stocks is, since we are in this business (26 years), there is no decoupling of European stocks from U.S. stocks. Other way round: there was no Melt-Up in Europe without the U.S. market. We didn't check the numbers after the German reunion, but this was a one-time event when European stocks rallied on their own.

"So, European stocks are cheaper than U.S. stocks, but not compared to their own history. European stocks could rally in the months ahead but only if U.S. stocks do the same. A European rally without the U.S. is in our view very unlikely." – Paid-up subscriber Johannes R.

Good investing,

Kim Iskyan
Dublin, Ireland
April 8, 2021