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By Ryan Leggio | 01-14-2010 05:57 PM

Getting the 'Outside View'

The Legg Mason chief investment strategist and author of 'Think Twice' on the benefit of deferring to a larger sample set beyond your own experience.

Securities mentioned in this video
AMZN Amazon.com Inc

Ryan Leggio: ... Switching gears to your book, you talk a lot about the differences between the outside and the inside view. I was wondering if you could explain that concept briefly for people who aren't familiar with it.

Michael Mauboussin: Yes. It's a really important idea, not only in money management but also in life.

The inside view is typically when you have a problem you're trying to solve or a forecast you're trying to make. What you do is you gather lots of information about it, you combine it with your own inputs, and then you forecast.

That could be what's the market going to do. It could be how long is it going to take you to remodel your kitchen. It could be when are we going to launch that new product. Very consistent.

The outside view, in contrast, looks at your problem as an instance of a larger reference class, which allows you to ask a very simple question: When other people have been in this situation, what happened?

It turns out a lot of problems we face or challenges we face may be unique to us, but there's this thing called the database of humanity. A lot of people before have gone through these things, and we tend not to pay attention to that.

The inside view typically leads to too optimistic forecasts about the future, and so what the outside view often does is temper some of those judgments and give you a much better perspective. So that is a big one.

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