Fine Tuning Your
“Baloney Detection” Meter
Increasing our ability to detect falsehoods can make us
better decision makers.
Donald Trump leans into the microphone. “I will be the greatest jobs president that God ever
created,” Trump proclaims. “I’ll bring back our jobs from China, from Mexico, from Japan,
from so many places. I’ll bring back our jobs and I’ll bring back our money.”
Wearing a blue power suit and red tie, the billionaire real estate developer looks and sounds
every bit the outlandish megalomaniac we think him to be. A thunderous applause erupts.
“We need you!” a man yells from above. Trump smiles like he just closed a deal. Elsewhere,
political economist David Ricardo rolls over in his grave.
Like the Roman and Chinese emperors of old, Trump seems to believe he has omnipotent
powers. He makes grandiose promises of saving America from its many supposed foes,
all the while bidding the public to trust him—not because he has a plan, but because he is
Donald Trump and a billionaire. He implies that he is the only person who can make the deals
that will brighten America’s economic future.
Most people who listen to Trump know better than to take him at his word; however,
Trump’s popularity and early lead in the polls suggest that some individuals have faith in his
promises. This leaves us wondering: when an authority figure makes a claim, how can we
separate the fact from the fiction?
We live in a world full of “baloney.” We are bombarded by marketing claims that may or may
not reflect the truth, we listen to political candidates make ostentatious claims about how
they will turn countries around, and as investors, we listen to management teams outline
their grandiose plans for growth.
But detecting baloney is neither easy nor obvious—particularly when some of that baloney
is our own. A carefully honed “Baloney Detection Meter”—a framework to increase our ability
of detecting falsehoods—can help us uncover the fallacies in our lives, make more effective
decisions, and avoid unnecessary challenges.
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The Enemy Within
Sasha was very young when she first learned about death. The little girl was sitting down
for a family dinner when she asked her father about his parents. She knew her maternal
grandparents intimately, but why hadn’t she met his parents?
“Because they died,” he answered wistfully.
Sasha asked, “Will you ever see them again?”
Sasha remembers her father weighing his answer carefully:
“...he said that there was nothing he would like more in the world than to see
his mother and father again, but that he had no reason—and no evidence—to
support the idea of an afterlife, so he couldn’t give in to the temptation.”
“Why?”
“...He then told me, very tenderly, that it can be dangerous to believe things just
because you want them to be true. You can get tricked if you don’t question
yourself and others, especially people in a position of authority. He told me
that anything that’s truly real can stand up to scrutiny.”1
Sasha's father was the late Carl Sagan, a cosmologist and science commentator whose
legendary curiosity and prolific writings inspired millions. His work shone a light of objectivity
and scientific reasoning on a world he saw dominated by pseudoscience and mysticism.
Indeed, it was his work in The Demon-Haunted World: Science as a Candle in the Dark that
provided the inspiration for our team’s own “Baloney Detection Meter.”
It is worthwhile to reflect on Sasha’s interaction with her father and what it teaches.
It illustrates that we must be aware of how we can get in our own way when trying to spot
baloney. As Sagan warned his daughter, it can be difficult to see the truth when it conflicts
with what we want it to be.
We are often our own worst enemies when it comes to spotting untruths. For example,
consider the large number of people who believed that cyclist Lance Armstrong raced clean
even as evidence mounted that he had doped. Until his ultimate confession on Oprah, no one
knew with certainty if Armstrong had taken performance enhancing drugs, but there were
enough red flags to at least raise eyebrows. And yet an impressive number of Armstrong’s
fans remained confident of his innocence up until the moment of his confession.
Armstrong’s fans simply didn’t want to believe that their champion and hero could cheat.
So in the absence of a hard confession or conclusive test results, they chose to ignore the
deductive logic and inductive evidence that cast doubt on their hero. It is this kind of
self-imposed delusion that often thwarts us.
People have their own set of stories, biases, emotions, heuristics and identities that guide
their lives, all of which have the potential to cloud their ability to detect baloney. If we don’t
want to see something, we usually won’t. But we need to be aware of this tendency if we truly
want to be able to spot baloney.
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Baloney Detection Framework
Over the years, our team has collectively interviewed and interacted with thousands of
management teams. These interactions have taught us many lessons on baloney,
its nuances, and how it is spewed. Over time, we have rolled up these lessons into a
two-pronged framework that we call our “Baloney Detection Meter.”
Our framework is straightforward. In order for a statement to be considered valid, it must
pass through two tests: deductive logic and inductive evidence. If a claim fails either one of
these tests, a red flag is raised.
The first test is deductive reasoning: does a claim make sense based on logic?
Deductive reasoning is a process in which a conclusion is based on the concordance of
multiple premises that are presumed to be true. In this type of reasoning, we draw specific
conclusions based on general observations. It is sometimes referred to as top-down logic. An
example of deductive logic is:
A: All men are mortal.
B: Socrates is a man.
C: Therefore, Socrates is mortal.
In this case, the conclusion “Socrates is mortal” flows naturally from the premises that all
men are mortal and that Socrates is a man.
Our second test is inductive evidence. It is not enough for claims to appear logical; they must
also be supported by facts. If deductive reasoning is sometimes referred to as “top-down”
logic, inductive reasoning is “bottom-up.”
Inductive reasoning refers to gathering specific evidence about a situation and then drawing
broader “probable” conclusions based on that evidence.
For example, you have seen animals eat at the zoo,
at the pet store, and on the farm. You may not
have seen all the animals in the world eat,
but you have seen it enough times and have
learned enough about biology to conclude
that all animals must eat to survive.2
The Gowex Case
It was a cold Friday in January and our research team had
ordered pizza and piled into the training room. One by one, we talked about stock ideas that
had the potential to be “ten baggers.” Eventually, Siying Li, an equity analyst, started talking
about a Spanish technology stock that she had just found. The company was called Gowex
and its margins and growth were both impressive. A startup darling, its management had won
numerous innovation awards over the previous year.
A few weeks later, Siying and fellow colleague and portfolio manager, Christian Deckart,
called Gowex’s management to learn more about the business. Over an hour and a half, the
two probed the company’s CFO on their business model and how they made money.
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Despite many questions, the pair never managed to wrap their heads around the simple
question of how the company was so profitable. In fact, they were so confused by the
business model they didn’t even get to the many other types of questions we normally ask in
these meetings.
After the call and some additional analysis, it was decided that Gowex just didn’t make
sense—the company was either the best thing since sliced bread or a fraud. Since we didn’t
understand their business model, and we won’t invest in businesses we don’t understand, the
research on Gowex was dropped.
Seven months later, Gotham Research released a report hypothesizing that the company had
fabricated over 90% of their earnings. Gowex’s stock was suspended from trading—Siying
and Christian’s skepticism had helped us to dodge a bullet.
Gowex is a practical example of how the baloney framework can be used in investing.
Even though the company’s financials supplied inductive evidence that it was a good business,
the deductive test was throwing out red flags. Something didn’t sit right with Siying and
Christian. Since they couldn’t figure out why the company was so profitable, they didn’t have
any reason to believe that the company would be consistently wealth-generating in the future.
Had we continued with further research on Gowex, the company might have also failed the
inductive evidence test. We would have put the company through our forensic accounting
process, which might have shown inconsistencies in the accounting. We would have also
looked for independent corroboration of the facts by speaking with employees, analysts,
competitors and industry analysts. These conversations likely would have raised red flags.
Turning the Meter on Ourselves
Of course, the real challenge with baloney detection is turning the process inward on
ourselves. Arguably, this ability is even more important than discovering falsehoods from
others because our own baloney is sneakier and possibly even more dangerous.
Self-deception can run deep. While we may think we view the world through an objective
lens, our perspective is coloured by our collective experiences and associations.
Our personalities, egos, and attachments to the stories and identities we have created for
ourselves create blind spots. Our consciousness is a live movie and we are its director.
Self-delusion is common place.
Luckily, there are strategies we can adopt to unearth our own misconceptions. And while the
scope of that discussion goes beyond what we can address in this paper, we believe there
are two strategies important enough to mention here.
The first strategy is to develop a greater awareness of our thoughts. Most of us run through
life without actively paying attention to our thoughts; they just seem to “pop” into our brains
and then disappear. A lot of times, we treat these thoughts as the truth. But while they may
certainly seem “real” in the sense that they are occurring, perhaps even producing a physical
reaction in our bodies, that doesn’t mean they represent objective reality.
For example, most people seem to have at least some negative stories or limiting beliefs
about their potential. They tell themselves all sorts of reasons why they can’t do something,
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like “I could never do that,” “it’s just not me” or “I’d never be good enough.” Frankly, a lot of this
self-talk is our own baloney. In our team’s experience, people’s true potential is generally way
beyond what they believe to be possible.
An active awareness of our internal thought process is the most critical step in detecting our
own baloney. Once we are self-aware, we are able to apply deductive and inductive reasoning
to our thinking. Developing this kind of self-awareness can be achieved in numerous ways.
One popular approach is meditation. Another is to journal.
The second strategy is to systematically build feedback loops in your life. You might not see
your actions clearly but often someone else usually will. Moreover, hard performance data
rarely lies. Systematically implementing feedback loops with other people or with objective
measures of performance can be a valuable tool.
For example, our research team at Mawer has found success in implementing a 60 day
review process. Every 60 days, we sit down with one of the three research leads and check
in on how things are going. This process is invaluable for the team as it enables the frequent
provision of feedback and allows team members to course-correct rapidly.
Final Thoughts
Carl Sagan once wrote that “the brain is like a muscle. When it is in use we feel very good.
Understanding is joyous.” It is in this spirit that we approach the detection of baloney.
We seek to peel away the layers of baloney in our lives, not only because we must (for good
decision-making) but also because we can. The pursuit of truth is a joyous and rewarding
process in and of itself.
However, even if the reader does not share in the same zeal for pursuing objective reality,
he or she will likely still appreciate the desire to make the most out of his or her life—or at
the very least his or her investment portfolio. And in these endeavours, the detection of
baloney is critical.
Kara Lilly, CFA
Investment Strategist
November 2015
1 Sagan, Sasha, Lessons of Immortality and Mortality from my Father, Carl Sagan. New York Magazine. April 15, 2014.
2
Chris Clause, “What is Inductive Reasoning? – Examples & Definition” study.com, Web. October 17, 2015.
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Appendix A: Managing Deductive Trappings
In order to benefit from the Baloney Detection meter, it is important to understand some of
the pitfalls that can occur in its application. These pitfalls can fall into either the deductive or
inductive side of things, or both. Let’s start with some of the common deductive trappings.
Make sure every link in the deductive chain works
For deductive reasoning to work, the assumptions we make must all be true. As Carl Sagan
argues, if there’s a chain of argument, every link in the chain must work (including the
premise) not just most of them.
For example, consider the advocates for the efficient market theory. This elegant theory
attempts to explain the behaviour of markets but unfortunately rests on the assumption that
human beings are rational—an assumption that has been falsified many times through the
work of cognitive psychologists and behavioral economists. Because this core assumption is
untrue, it casts doubt on any subsequent conclusion.
Quantify arguments and make them falsifiable
When building a deductive argument, clear statements and quantifiable facts can help build a
stronger argument.
As an example, here are two commonly held viewpoints in business:
A. Companies that meet their customers’ needs survive.
B. Good management teams ensure their companies survive.
C. Thus, good management teams listen to their customers.
A. Innovation is key for companies to survive.
B. Good management teams ensure their companies survive.
C. Thus, good management teams know how to innovate.
While both examples seem to flow logically from premise to conclusion, what is being
said is not necessarily useful or true. On their own, and without more detail, both of these
conclusions are weak.
In the first example, the claim is that companies that meet their customers’ needs survive.
This sounds like something we would all think is true. However, without quantification, it’s
hard to know whether we should believe what’s being said. And in fact, data from Harvard
professor Clayton Christenson (collectively called The Innovator’s Dilemma) seems to suggest
the premise is untrue: by focusing on existing customers, companies often fail to see ways in
which they could fulfill customer needs in the future, thereby threatening their survival.
The second example is equally problematic. Again, very few managers would disagree that
innovation is important to survive. But what do we mean here by innovation? The word is
vague and open to interpretation. This makes the whole statement rather useless. What does
it mean to be innovative?
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Beware of appeals to authority
Arguments from authority should carry little weight. Simply because an authority figure
makes a statement, does not mean it’s true. Simply because someone is seen as an authority
figure, does not mean that his or her opinions are valid. Authority figures are often wrong.
Arguments need to stand on their own merit. Don’t be afraid of questioning authority.
See: The Expert Problem
Appendix B: Managing Inductive Trappings
Like the deductive process, there are many inductive pitfalls. Below, are three of the
most common:
Whenever possible, there must be independent confirmation of the facts.
Induction involves the drawing of conclusions based on the specific pieces of information or
facts. That is why it is always necessary to dig into the inductive evidence and independently
confirm all facts. This is particularly important the more subjective or qualitative a “fact”
appears to be. Independent corroboration is a major component of our investment process
and we make frequent trips to see the assets of the companies in which we invest firsthand.
Try not to get overly attached to a hypothesis.
As Sagan notes, your hypothesis is only a way station in the pursuit of knowledge. If you
become overly attached to it and it’s wrong, it could prove very difficult to reject. Likewise,
attachment to our hypothesis can blind us to the alternative theories that exist or that are
proposed by others.
We must ask ourselves why we like an idea and then compare it fairly with the alternatives. In
addition, we should try to find reasons for rejecting it. If we don’t, others will.
Spin more than one hypothesis
When drawing up a hypothesis, it is important to draft multiple theories. Otherwise, you risk
running away with the first story in your head—and increase the likelihood of falling prey to
confirmation bias.
See: Conversations with a spy (a discussion on working multiple hypotheses)
Further Readings
1.
2.
3.
4.
5.
6.
7.
Sagan, Carl, Ann Druyan. The Demon-Haunted World: Science as a Candle in the Dark.
Ballantine Books: New York. 1996 (Baloney Detection Kit found in Chapter 12)
A History of Western Philosophy. Bertrand Russell
The Expert Problem
The Method of Multiple Working Hypotheses
Let’s Gowex: La Charada Pescanova (a Pescanovan Charade)
Wheelmen: Lance Armstrong, the Tour de France, and the Greatest Sports Conspiracy Ever
Conversations with a spy (exploring multiple working hypotheses)
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