Circle Of Competence

Definition

Two ways of categorizing knowledge are:

  • Is it important?
  • Do you know it better than other people?

One way of categorizing knowledge is how well we know it in comparison to others:

  • Knowing important and true more about this than almost anyone else
  • Know more than most others
  • Know less than most others

Categorizing knowledge this way is important, because each level predicts our success in that area.

As the saying goes, "A little knowledge is a dangerous thing." The reason it's dangerous is that it often creates an illusion of superiority because we don't realize how little we know and we don't realize how many other people there are better than us. The dangers of the illusion of superiority are apparent in the investing world where novices try to actively trade and beat the market despite the fact that over 90% of professional traders can't even do so.

Quotes

“I’m no genius. I’m smart in spots—but I stay around those spots.” — Tom Watson Sr., Founder of IBM
"Everybody's got a difference circle of competence. The important thing is not how big the circle is. The important thing is staying inside the circle." —Warren Buffett
What an investor needs is the ability to correctly evaluate selected businesses. Note that word “selected”: You don’t have to be an expert on every company, or even many. You only have to be able to evaluate companies within your circle of competence. The size of that circle is not very important; knowing its boundaries, however, is vital." —Warren Buffet (1996 Shareholder Letter)

Videos

Visuals

Source:
Source: Strategic Alpha

How To Develop A Circle Of Competence

#1. Know what's inside your circle and outside of it

#2. Play in sandboxes where you know

  • Wait until the odds are strongly in your favor.

#3. Expand the size of your circle