Friday, October 15, 2010

Baseball by the Numbers

I just finished reading a fascinated book entitled Moneyball by Michael Lewis.  Although the book is about baseball, it is an interesting read even for the non-sports fans.  There are a lot of lessons in there about money and investing if you are astute enough to pick up on them.

The book describes how the Oakland Athletics were able to field a winning team in the early 2000's on a shoestring budget.  The main protagonist of the book is Billy Beane, who is the team's general manager.  As GM, it is Beane's job to choose the players and assemble the team.  Unlike other sports, baseball has no salary cap.  Teams are free to spend as much or as little money as they want to acquire players.  Rich teams like the Yankees can lavish rich contracts on superstars, which is why the Yankees always seem to be in the playoffs every year.  On the other hand, poor teams like the A's cannot afford to spend money on superstars, so they have to be smart in how they use their money.

Baseball is a sport that reveres numbers and statistics.  The game is full of them:  ERA, RBI, saves, home runs, batting average, and the list goes on.  Baseball fans quote these stats like they are quoting passages from the Bible.  Numbers are so sacred in baseball that fans get into a lather about whether or not a home run total should have an asterisk after it or not.  However, baseball's dirty little secret is nobody truly puts these statistics to use to actually win games.  At least not until Billy Beane came along.

Since the 1970's there have been a small cadre of baseball fans, lead by a man named Bill James, who have tried to use statistics to truly understand the game.  They wanted to use numbers and logic to determine such things as what to do in certain game situations, what to look for when drafting a rookie, and most importantly what statistics were best correlated to winning.  The result of this analysis produced some astounding results that went against traditional baseball logic.

The most important statistic - the one that predicted baseball success - was a high On Base Percentage.  This is the percentage of time a batter got on base either by getting a hit or by getting a base on balls.  Teams with a high OBP scored lots of runs, and teams that scored lots of runs won lots of games.  Therefore, when you are putting together a team, you should find players with a high OBP.  Compared to batting average, RBI, and home runs, OBP was a very minor stat.  Baseball scouts rarely paid attention to it.  They preferred players with gaudy power numbers who could hit the ball a country mile.  Chicks dig the long ball, not the base on balls.

Bill James and his group came to this conclusion based upon facts and logic, so it stands to reason that baseball insiders would take notice.  However, those inside baseball ignored it.  The collective wisdom of the baseball insiders was superior to a bunch of baseball geeks with their facts and figures.  The first baseball insider who took a closer look at this research was Billy Beane.

As the general manager of a small market team, Beane had to be smart about how he deployed his limited resources.  He had to maximize his resources in order to have a chance of competing.  He discovered that other teams overvalued things like home runs and other power numbers, but they undervalued on base percentage, which happens to be the best predictor of winning.  Therefore he concluded that he could stock his team with guys who could get on base for very little money and win.  At first, he was laughed at because he would sign players that nobody else considered to be any good.  However, he knew that if they could get on base more than the next guy, they could win.

And they did.

The book itself is partially about baseball, but the main theme is how mature institutions like baseball have a conventional wisdom which may be conventional, but it isn't wise.  It is based upon tradition and tribal knowledge, rather than real facts.  When people come along to challenge the conventional wisdom, it is often ignored or ridiculed despite logic.

So what lessons can you apply to your own life:

1. Do your own homework.  Don't rely upon conventional wisdom.  Trust your own judgment if the numbers back you up.

2. Listen to facts.  Just because something has been done a certain way for a long time doesn't make it the right way.

3. Buying assets which are undervalued and under appreciated is a consistent way to make money (just ask Warren Buffet).

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