Like Warren Buffett’s In This To Lose Money

You see, kids, back in 1982, color photography hadn't been invented yet

You see, kids, back in 1982, color photography hadn’t yet been invented

 

Humans are atrocious at assessing risk. That’s why there are mothers who won’t let their kids visit the house of a friend whose parents own a gun, but who have no problem allowing their friends to visit a house that features that child abattoir called a swimming pool, even though Junior is hundreds of times more likely to die at the latter house than the former.

Humans are also, for the most part, rotten at math. That’s why Quicken Loans can offer ONE BILLION DOLLARS (really, half a billion dollars) to someone who can select a perfect NCAA Division I Mens’ Basketball tournament bracket, and people will take it seriously. Here’s the truth:

You’re not going to win it, but on the other hand, nobody else will. That simple sentence alone isn’t enough to convince most people. They know that someone wins Powerball and Mega Millions every few weeks, so why should the Quicken Loans Bracket Challenge be any different?

(Note: Quicken Loans is offering the $500 million, but Warren Buffett is underwriting the promotion. He doesn’t need to underwrite it – your poor alcoholic cousin could do just as good a job, for the negligible risk incurred – but Quicken Loans is paying Buffett for the privilege of the insurance. $10 million. Yes, the one person who’s going to make f.u. money from this is the guy who already has $60 billion.)

The problem is that most people can’t distinguish between one large number and the next. After all, aren’t they all pretty much the same once you get past 1 million?

The odds of picking 64 games perfectly, straight-up, is 9,223,372,036,854,775,808-to-1. We can call that 9.2 quintillion-to-1 and it’s not going to alter our calculations significantly. The odds of winning Mega Millions are 258,890,850 to 1. It’s 36 billion times more likely you’ll win Mega Millions (which you won’t, but at least somebody will) than that you’ll fill out a perfect bracket.

Let’s say there’s a nationwide lottery in the United States. Every citizen gets one entry, and there are 2 drawings. The chance that the same person would win both drawings is about 1% of the chance that someone’s going to take Quicken Loans’ $500 million.

Some of you who are particularly sharp are thinking, “Come on. A 16-seed isn’t going to beat a 1-seed. That narrows the odds significantly.” And you’re right. Throughout history, the 1-seeds have won their opening games 100% of the time. The 2-seeds, 99%. If you take all the favorites in every round, the odds reduce to 7,419,071,319-to-1. Assuming not a single 9-seed beats an 8-seed. Which, you know, never happens.

Here’s Juliet Lapidos, a lady who works as a staff editor at the New York Times. Ms. Lapidos “holds a B.A. in comparative literature from Yale University and an M.Phil. in English literature from the University of Cambridge,” so if you’re looking for someone perfectly innumerate, the closest thing to an anti-Peter Lax, she’d be close to an optimal choice.

ESPN has run a March Madness contest for the last 13 years and no one has ever completed a perfect bracket.

That’s like saying no one has ever been trampled to death by a left-handed female African elephant on the inside lane of the southbound Lake Pontchartrain Causeway while whistling Ennio Morricone’s “Ecstasy of Gold” and spinning 11 plates on sticks, 9 of them clockwise and 2 counterclockwise. Of course it’s never happened in 13 years. It won’t happen in 13 trillion. That someone felt the need to point this out is part of the problem.

We can’t understand why Quicken Loans restricted the contest to the first 15 million entrants. Keep in mind, all the entrants have to submit personal information in their quest for money they’re never going to win. That’s a database of potential borrowers that no company this side of Facebook can put together easily. (Bonus: Facebook somehow gets information from people without offering them a chance at any money. Mark Zuckerberg is even smarter than you thought.)

Even assuming the favorites were going to win every matchup, is $500 million worth your while? Not a ridiculous question. Given the odds on completing a perfect bracket under the condition that every favorite win, then $500 million would be a fair payout on a wager of 13¢. Your information as a would-be customer is worth more than that to Quicken Loans, even assuming that you probably won’t get a mortgage from them. One more time, and we’ll say this until you’re sick of it: look at every transaction from the perspective of the other party. Why would Quicken Loans feel like giving money away for no reason at all? Does Warren Buffett make it a habit of losing money on investments? (Especially when he can determine the probabilities in advance?) This is a way for Quicken Loans to combine market research and data mining into one campaign, and get the media, primarily Yahoo, to do the work of promoting it. It’s also a way for Warren Buffett to profit off someone else’s inability to properly assess risk. Bet the NBA instead, the lines are truer.

Warren Buffett is a Hypocrite, Part I

Amass an 11-digit fortune, and you should probably forgo a name tag

We’ve never done a post on The Oracle of Omaha, which makes us unique among personal finance blogs. We also didn’t misspell his name as “Buffet”, which also makes us unique among personal finance blogs.

Yes, he’s the greatest investor of all time. No one disputes this. The problem is when he starts talking about topics he either knows nothing about, or is being deliberately obtuse about. Amassing wealth doesn’t make you an authority on every subject. Case in point, his recent lament about taxes.

Buffett wrote in The New York Times that the current progressive tax system in this country, in which rich people bankroll most everything, just isn’t progressive enough. He pointed out, yet again, the absurdity of his secretary paying a higher percentage of her salary in taxes than he does.

Summarizing, Buffett claims that at least one of his employees allegedly pays an effective tax rate of around 41% on income, while Buffett himself pays 17%.

First, the former claim is a lie. The highest marginal tax rate in this country isn’t even 41%, let alone the highest average tax rate. The highest marginal tax rate is 35%, and given the income level at which the IRS administers it, to pay an effective tax rate of 35% you’d have to make $6 million a year.

So Buffett’s not comparing himself to the woman who answers phones at Berkshire Hathaway. He’s comparing himself to a manager who makes a higher salary than almost everyone in America, even more than your average NBA or major league baseball player.

We’re giving Buffett the benefit of the doubt here, assuming that he meant 35% instead of 41% even though those numbers are easy to distinguish. No one knows where he got the 41% figure from.

Furthermore, that 35% maximum rate is on taxable income. Anyone who’s ever filled out a 1040, or had someone else do it, knows that taxable income is considerably less than total income. There are these things called deductions and credits, which Buffett is presumably familiar with (and which any manager who makes $6 million a year must be familiar with, too.)

It makes for a great class warfare talking point: every dollar that I fail to make is somehow some richer person’s doing. And who better to inspire envy among the poor salaried millions than a tycoon who’s finally seen the error of his ways?

Buffett – and we salute him for this – has spent a lifetime earning money via capital gains, rather than salary. Do we think this is a good idea? Hell, we wrote a book about it.

Capital gains are taxed at lower rates than salaries are. The people who write the tax code, and make it the most cumbersome and impenetrable thing on the planet, ensure this. Of course they do. Legislators write the code to accommodate and exploit this, because they derive most of their income through capital gains.

Let’s assume that Buffett indeed has employees who are paying twice the proportion of their income in taxes as he is. What’s the fairest way to make things fair? Again, multiple-choice.

  1. Further soak the rich.
  2. Get government’s foot off the throat of the poor.

Raise the rich people’s taxes to make things even, or lower the poor’s? Rich people seem to enjoy being rich. Why not reduce rates on the salaried masses to put them in line with whatever Buffett’s definition of “rich” is, instead of the other way around? Instead of creating prosthetic limbs for amputees, Buffett wants to break the right arms of the able-bodied.

The reactionary answer is “Because it’ll reduce much-needed tax revenue.” It wouldn’t. People respond to incentives, and will have incentive to work harder, longer hours if they get to keep more of what they make. When I can keep 84¢ of my next marginal dollar, there’s a better chance I’ll work for that dollar than if I only get to keep 67¢.

It’s the height of arrogance to complain about the tax system not because it hurts you, but because it benefits you. Especially when there are so many ways for Buffett to fix this perceived injustice. Sure, he could cut Washington a check for whatever amount he feels he should be paying. He could increase his employees’ pay enough to offset any tax advantage.

Or, and this is the least likely of the three, he could rework the dividends that flow through his corporations so that he could receive all his income as salary, rather than capital gains.  The chance of this happening is roughly equivalent to the likelihood of Buffett running a 4-minute mile.

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We’ve been pushing the concept of a diagonal tax since we were old enough to understand the concept. Everyone gets a basic personal deduction – say $20,000 – and pays some percentage – say 17 – on the rest.

The guy making $6 million would thus pay 16.94% of his income in taxes. The guy making $30,000 would pay 6% of his income in taxes. The guy whose net worth increases $10 billion in a year would pay 16.99997% of his income in taxes.

People who want to soak the rich should love this system. It treats the rich and the hyper-rich almost identically, biting them almost 3 times as hard as the working stiff, relative to what all three make. If that’s not enough, just manipulate the deduction and percentage numbers until it all makes sense.

 **This article is featured in the Yakezie Carnival-October 2, 2011 Welcome Fall Edition**