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A smart investor’s guide to systems thinking

M1 Team
M1 Team October 22, 2020
Flashlight shinning on the correct direction with blue background

Systems thinking champions are everywhere.

They include brilliant consultants, TED speakers, AI pioneers, and public policy leaders. And no wonder: Systems thinking is consistent and simple. It uses feedback and new learnings to refine the results.

It’s a methodology that can make smarter investors of us all.

For example, some hopefuls take random stabs at hitting the jackpot. Others attempt “market timing,” a disproven model that involves buying and selling a stock at ideal intervals. We’ve all seen the u/wallstreetbets subreddit…

Those actions aren’t in line with the long-term mindset, but systems thinking is.

In taking a closer look at systems thinking we’ll define what it is, how it works, and how to employ it in your financial life. In fact, you could well have a strong enough grasp by the time you finish reading to put its principles and procedures to work now.

Here’s what smart investors should know about systems thinking:

  1. What is systems thinking?
  2. Systems thinking changes your approach
  3. Putting systems thinking to work as an investor
  4. Something more to think about

What is systems thinking?

Systems thinking follows a circular path analogous to the high-tech concept of “test and learn.”

This flowchart, sketched out by Sam Ovens of Consulting.com, sums it up in a visual perfect for printing and pinning to your office wall or whiteboard.

We’ll use a pie to describe how systems thinking works (choose your favorite flavor):

  1. The user gathers informational inputs. These are your pie ingredients and recipe.
  2. Those inputs pass through a process of behaviors and/or actions. So mix, prepare for the oven, preheat, bake.
  3. The result is your output. Translation? Pie time.
  4. From the output, the user gathers feedback. Next time, here’s how you can tweak the recipe or prep process and get a tastier result with less mess, in less time.
  5. …and that feedback loop cycles back into a new round of inputs. That means more pies.

But systems thinking isn’t just for consultants, athletes, and investors — machine learning borrows from systems thinking, too.

Artificial intelligence uses a fancy name for systems mapping—backpropagation—first laid out in 1987 by Carnegie Mellon University professor Geoffrey E. Hinton. His breakthrough paper described how computers could learn by performing a task over and over to improve the results.

The advantage we have as humans lies in our ability to select and filter our inputs. Computers can’t do that, though they do work with the information and data we provide to them.

And so our investment journey with systems thinking begins as we comprehend its advantages over other approaches.

Systems thinking changes your approach

First, systems thinking is forgiving.

When we practice systems thinking, we don’t blame our mistakes or days in red on irrational reasons that encourage low self-esteem and quitting.

Instead, we can add to our inputs, and focus our process. This takes self-blame and negative emotions out of investing, which is especially crucial no matter your experience.

Second, it’s holistic.

This column by Leyla Acaroglu (founder of unschools.co, disrupdesign.co and coproject.co) features a graphic suitable for printing and placing next to the flowchart referenced above.

In it, you’ll see many comparisons between disintegrated states/fragments and what results when systems thinking brings things together: from parts to wholes, disconnection to interconnectedness. For example:

  • You look at how the value investing guides not just isolated stock purchases (disconnection), but also your retirement account and portfolio (“interconnectedness”).

Acargolu also highlights the pitfalls of lateral or linear thinking, which many people use instead.

If systems thinking is a circle, linear thinking is a straight-line arrow. But what do you aim that arrow at? That calls to mind the term “hitting” the jackpot.

Linear thinking has a one-way trajectory. You act on inputs over and over and still may never refine strategy. We all know the anecdotal term for this: banging your head against a wall.

Contrast this to Acaroglu’s attention-grabbing sketch of “interconnected feedback loops,” which facilitate synthesis, a foundational element of systems thinking. This bears a striking resemblance to depictions of “neural networks” that make artificial intelligence possible. 

Putting systems thinking to work as an investor

Systems theory in personal finance can get a bit tricky because some people make a large amount of money by chance, while others lose it despite employing sound strategy and systems. We talk about it often, but in case you forgot: no one can predict the market.

The key is to recognize that chance can never be replicated in a conscious way. But systems thinking, applied over time, makes the most of accumulated knowledge, best practices, and digital tools.

Let’s say that you want to start an IRA account:

  1. Your inputs may include the money you deduct from your freelance paychecks, knowledge gleaned from a few videos and some help from a friend or family member who’s done it themselves.
  • You go through the process of setting up that account…
  • …and your output is the account itself, already working on your behalf to realize a secure retirement.
  • That result marks a milestone on the path to prosperity. Time to celebrate! But…
  • … as you enter the feedback stage, you notice some missing pieces, while others are pointed out to you. Managing the IRA would prove far more efficient using a free automated money management platform. You’re not investing quite enough to meet your desired goals. You put all the money in bonds, which you learn is a very, very conservative strategy, likely too much so since you identified a preference for a riskier strategy.
  • Now it’s time to take the feedback and incorporate it into another round of inputs.

In lateral or linear thinking, you may have done many of these steps. The trick is that you likely wouldn’t have seen the feedback stage as an iterative loop.

Something more to think about

Our finances are integrated. Systems theory shows that all areas of our financial lives affect and impact each other. They don’t exist in silos.

Imagine how systems, applied in other areas of personal finance, can multiply positive results. You can launch systems thinking into action with spending, saving, and even the money you donate to charitable causes.

The applications are limitless, as system thinking can make a profound difference in every area of life that matters most.