I’m sure most of you already know about, and probably have read Extraordinary Popular Delusions & the Madness of Crowds. Well there’s a new book, The Wisdom of Crowds: Why the Many Are Smarter Than the Few and How Collective Wisdom Shapes Business, Economies, Societies and Nations, that takes a different angle on group-think.
It’s interesting to juxtapose the ideas in these two books. This is just like the argument between trend following traders, who join the crowd, and contrarians who try to buck the crowd. As I’ve written before: the crowd may be stupid but it’s stronger than you. But there’s also lots of money to be made by fading the crowd if your timing is right. I may have to add this book to my reading list, although after reading the reviews at Amazon I’ll probably flip through it first. Since the author is a financial writer I’d like to see how he relates his findings to the market.
Dave Pollard has a write-up about the book on his weblog.
Edit to add: Here’s a snippet of an essay Surowiecki wrote in the June 2004 issue of Wired (via ‘To Talk of Many Things‘):
We often think of groups and crowds as stupid, feckless, and dominated by the lowest common denominator. But take a look around. The crowd at a racing track does an uncannily good job of forecasting the outcome, better in fact than just about any single bettor can do. Horses that go off at 3-to-1 odds win a quarter of the time, horses that go off at 6-to-1 win a seventh of the time, and so on. Decision markets, like the Iowa Electronics Markets (which forecasts elections) and the Hollywood Stock Exchange (which predicts box office results), consistently outperform industry forecasts. Even the stock market, though it’s subject to fads and manias, is near-impossible to beat over time.
By contrast, while it’s clear that some CEOs are excellent leaders and managers, there’s little evidence that individual executives are blessed with consistently good strategic foresight. In fact, in an extensive study of intelligent CEOs who made disastrous decisions, Dartmouth’s Sydney Finkelstein writes, “CEOs should come with the same disclaimer as mutual funds: Past success is no guarantee of future success.” Even when executives are smart, they have a hard time getting the information they need – at so many firms the flow of information is shaped by political infighting, sycophancy, and a confusion of status with knowledge. Hierarchies have certain virtues – efficiency and speed – as a way of executing decisions. But they’re outmoded as a way of making decisions, and they’re ill-suited to the complex strategic landscapes that most companies now inhabit. Firms need to aggregate the collective wisdom instead.
One intriguing method of doing this is to set up internal decision markets, which firms can use to produce forecasts of the future and evaluations of potential corporate strategies. Few companies have tried such markets. But the few examples we have suggest that they could be very useful. In the late 1990s, for instance, Hewlett-Packard experimented with artificial markets to forecast sales. Only 20 to 30 percent of employees participated, and each market ran for just a week, with people trading at lunch and in the evening. The market’s results outperformed the company 75 percent of the time. Even more impressive was a recent experiment at e.Lilly, a division of Eli Lilly, which set up a market to test whether it was possible to distinguish between drug candidates likely to be approved by the FDA and those likely to be rejected. Realistic profiles and experimental data for six hypothetical drugs were devised by e.Lilly, three of which it knew would be approved and three rejected. When trading opened, the market – made up of a diverse mix of employees – quickly identified the winners, sending their prices soaring, while the losers’ prices sank.
And Surowiecki did some guest blogging at 800-CEO-Read (Think different, Solidarity vs. diversity )
