What I'm reading: How smart people use second-order thinking to outperform
Things aren’t always as they seem.
Often when solving one problem, without realising, we create another worse one.
How can we analyse the long-term impact of our decisions?
It’s often easier to spot when people didn’t properly consider the second and subsequent order impacts than when they did.
I'm sure Liz Truss didn’t fully think through the second-order impact of her mini-budget tax measures which led to shattered confidence among financial markets, a plummeting Pound, a meltdown in the UK bond market and ultimately her demise.
The ability to think through problems to the extreme — or ‘second-order thinking’— is a powerful tool to supercharge your thinking.
In his book, The Most Important Thing, Howard Marks explains the concept of second-order thinking.
First-order thinking is quick and easy.
We try to solve the immediate problem, without considering what happens next.
“I’m hungry, I’m going to eat cake”.
Second-order thinking is more thoughtful.
It’s thinking in terms of interactions and time.
That despite our intentions, what we do often causes harm.
It’s asking yourself, “and then what?”, over and over.
What happens when you repeatedly eat cake when hungry and use that analysis to inform your decision (if you do this, you’re more likely to eat something healthy).
First-level thinking appears the same.
Interestingly, these thinkers reach the same conclusions.
But if you want to out-think someone, you can’t do it with first-order thinking. It must come from second-order thinking.
Extraordinary performance comes from seeing things that other people can’t see.
Here are three techniques for you to start using second-order thinking today:
- Always ask yourself “And then what?”
- Think through time — What do the consequences look like in 10 minutes? 10 months? 10 Years?
- Think through and write down the consequences of your decision. If you review regularly, you’ll be able to help calibrate your thinking.
If you’re a business owner using this to think about business decisions, ask yourself how important parts of the ecosystem are likely to respond.
Often the answer will be low in impact but understanding the immediate and subsequent consequences before you make the decision, is key.
A lot of extraordinary things in life are the result of things that are first-order negative, second-order positive.
This could be said of my personal mission to change how the ‘broken’ financial services system works.
I believe investors should pay less and get to keep more of their returns.
Because I charge a fee rather than take a commission, I need to drive down the cost of investment while maintaining some level of profitability to survive.
This is horribly hard.
But over time, charging less and not taking commissions drives up the returns my clients get.
They're happy, trust me more, give me more money, and introduce me to their friends.
I manage more money, get greater economies of scale and therefore reduce the costs that my clients pay, while maintaining profitability.
The circle self-perpetuates.
Driving costs low, returns higher and creating a win-win for everyone involved.
Hard to start, but powerful once ignited.
A first-order thinker just takes jam today and is ‘short-term’ greedy.
Thereby sacrificing everyone’s tomorrow.
Second-order thinking takes work.
It’s not easy to think in terms of systems, interactions, and time.
However, doing so is a smart way to separate yourself from the masses.