The mistake I made for a long time was reading the market price first. I would pull up a contract, see it trading at 62, form an opinion, and then go looking for reasons my opinion was better than 62. That is backwards, and it took me a while to notice why. Once you have anchored on a number, everything you read after that gets bent toward defending or attacking it. You stop forecasting and start arguing.
The fix I stole from planning researchers is boring and it works. Before you look at the price, you build your own number from the outside. You find the reference class, which is just the set of past events that look like this one, and you count how often the thing happened. Incumbents running for re-election. Announced product deadlines. Drug approvals on first review. Central bank moves that were already telegraphed. Each of these has a rate that history has already paid out, and that rate is your starting point. Only after you have that number do you allow yourself to look at what the market thinks.
Why the outside number beats your gut
The reason this helps is that your gut is very good at the inside view and very bad at the outside view. The inside view is the story of this specific case. This particular candidate, this particular scandal, this specific delay in this specific supply chain. The story feels rich and it makes you confident. The outside view ignores almost all of that detail and asks a dumber question. Of the last hundred things that looked roughly like this, how many resolved yes.
The dumb question wins more often than it should, because the story you build about the specific case is where your biases live. You overweight the vivid detail you just read. You assume this time is different, and most times are not that different. The base rate does not know your story and does not care, which is exactly why it is useful as an anchor you did not choose.
Here is the ordering I try to hold to, and I fail at it often enough that writing it down helps:
- Name the reference class out loud before opening the market. What broad category of event is this.
- Estimate the base rate from that class alone, using history, not the current narrative.
- Adjust for the handful of things about this case that genuinely move the rate, and be stingy about how many you allow.
- Now look at the market price and compare.
Some rough base rates to start from
These are not gospel and they drift by era and jurisdiction, so treat them as anchors you refine, not facts you cite. The point is to start from somewhere disciplined instead of from a blank slate.
- Incumbents seeking re-election in stable democracies win a clear majority of the time, historically well over half, often much higher for legislative seats than for contested executive races.
- Announced deadlines for large projects, software launches, and regulatory reviews slip more often than they hold. When someone gives a firm date months out, the base rate for hitting it exactly is not kind.
- Regulatory approvals on first pass vary enormously by domain. Routine filings clear at high rates, novel or contested ones much lower, and the honest move is to find the sub-class rather than use one blended number.
- Central bank decisions that markets have already priced tend to land as expected. The surprises are rare, which is precisely why they move so much when they happen.
- Merger completions once a deal is publicly announced historically close more often than not, though antitrust-heavy deals sit in a different, lower class than routine ones.
Notice that every one of these came with a hedge about sub-classes. That is the real skill. Picking the right reference class is harder than counting within it. If you class a contested antitrust merger with routine deals, your base rate is garbage before you even start. Narrow enough that the cases actually rhyme, broad enough that you still have a decent count to work from.
Comparing your prior to the price
Once you have your number, the gap between it and the market is the only interesting thing on the screen. There are basically three cases and they call for different behavior.
If your prior and the price roughly agree, you have no edge and you should mostly move on. This is the common case and it is fine. Agreement is not a trade, it is a reason to spend your attention elsewhere.
If they disagree, you have to ask a hard question before you get excited. Do I know something the market has not priced, or does the market know something I have not accounted for. Most of the time when I find a big gap, the honest answer is the second one. The market has already absorbed the thing I think is my insight, and my base rate is stale because I built it from the wrong class or missed a recent structural shift. Genuine disagreement, where you can point to a specific piece of information or reasoning the price is missing, is rare and worth sizing up for. Ignorance dressed as disagreement is the thing that quietly drains accounts.
The way I try to tell them apart is to write, in one sentence, what the market must be believing to be right. If I can write that sentence and it sounds plausible, I am probably the one who is wrong. If I write it and it depends on the market ignoring something concrete and checkable, then maybe I have found something. Forcing yourself to state the market's case charitably kills a lot of bad trades before they cost anything.
A failure mode to watch for
The ugliest way this goes wrong is updating your base rate to fit the price after you have seen it. You build a prior of 40, you see the market at 70, and instead of treating that gap as information you slowly talk yourself into a new prior of 65 by finding reasons the class was wrong. Now you have laundered the market price into your own head and called it independent analysis. If you catch yourself revising the reference class only after seeing the price, stop and go back to the number you wrote down first. The whole value of the method is that the anchor came from history, not from the order book.
None of this makes you right. Markets are often sharper than any single reference class, and a good base rate can still lose to fresh information you did not have. What it buys you is a cleaner read on your own confidence. When you and the market disagree, you now know whether you are looking at a real edge or at the shape of your own ignorance, and that is usually enough to size the position honestly or skip it. Keep a small log of the classes you used and how they resolved, and after a few dozen the ones you can actually forecast start to separate from the ones you were only guessing at.