The WWII Bomber Puzzle: A powerful lesson for modern investors

This is a reproduction of our article in The Economic Times.

If you've spent any time reading about investing or decision-making, you've likely come across the iconic image of a World War II bomber covered in red dots indicating damage.

This well-recognized visual often accompanies discussions on survivorship bias. Despite this iconic image’s familiarity, many investors fail to apply its lessons to their portfolios. We nod along in understanding, yet soon after, we find ourselves chasing 'successful investor' profiles and fund managers with 'proven' track records.

The Story of Abraham Wald and the Bombers

In 1943, Allied bombers returned to base, riddled with bullet holes after missions over Europe. Military commanders collected extensive data, documenting damage on fuselages and wings while noting fewer bullet marks on engines and cockpits. Their conclusion? Reinforce the areas that had the most damage.

Enter Abraham Wald, a statistician with the Statistical Research Group at Columbia University. He realised they were only studying the bombers that made it back. The bombers that never returned likely suffered critical damage to engines or cockpits, areas not represented in the data. Wald’s recommendation was counterintuitive: strengthen the areas that showed little to no damage—because those were the vulnerable spots that brought down the planes that didn’t make it.

Wald’s insight provides a powerful analogy for investing. We often focus only on surviving funds, companies, or strategies, ignoring the ones that didn’t make it.

Survivorship Bias in Investment Analysis

Survivorship bias skews our perspective. We see only the winners and assume they hold the key to success. This issue often arises in popular business and management books, which focus solely on successful companies and overlook those that tried the same strategies but failed. We rarely pause to consider the missing data—the funds that failed, the companies that collapsed, or the strategies that floundered.

Wald’s approach teaches us to uncover true risks by examining failures and missing data. For instance, while management books praise companies like GE or IBM, they often ignore companies like Pan Am or RCA that once thrived but eventually collapsed. Examining these untold stories helps investors uncover vulnerabilities hidden in survivor-only data.

Practical Applications of being aware of the Survivorship Bias for Investors

To make Wald’s insight actionable, here’s how investors can protect the vulnerable areas in their portfolios:

1. Liquidity Risk

Liquidity risk hides in plain sight until a crisis reveals it. Imagine the 2008 financial meltdown or the 2020 pandemic, when assets that once seemed easy to trade suddenly had no buyers. Investors who prepared with highly liquid securities like government bonds or cash had the armour they needed. Survivors were those who prepared for what couldn’t be seen, just as Wald’s analysis helped protect bombers against unseen threats.

2. Leverage and Risk Exposure

Leverage can look like a magic tool—just as the surviving bombers seemed to show only safe bullet holes. But what about the planes that didn’t return? Think of investors in 2007 who leveraged heavily into real estate, only to face ruin in 2008. Survivorship bias masks these failures. Use leverage cautiously, always considering that the risks are far more dangerous than they appear, just like the unseen vulnerabilities in the lost bombers.

3. Strategy Resilience

The strategies that survived the technology boom of the late 90s were celebrated—until the bubble burst. Survivorship bias led us to think that what worked then would work forever. Diversify across asset classes, industries, and geographies to prepare for the unexpected. Survivorship is about adaptability, not assuming that past winners will always succeed.

4. Concentration Risk

Think of portfolios concentrated in energy companies before the 2014 oil price collapse. It’s like seeing only the surviving bombers’ bullet holes and assuming concentrated sectors will always be strong. Diversification, while it may seem to drag on returns in good times, is the armour that protects you against the risks others overlook—the invisible holes that cause catastrophic losses.

5. Quality Company Assumptions

Just as many assumed that the less damaged areas of the bombers were safe, investors often assume that quality companies will always thrive. Remember Nokia, Kodak, or Blockbuster—these giants seemed invincible until they weren’t. Survivorship bias can make us forget that even the strongest companies can have hidden vulnerabilities. Diversify because what looks invulnerable today might be tomorrow’s casualty.

6. Macroeconomic Shocks

The 2008 financial crisis and the 2020 pandemic caught many investors by surprise. Survivorship bias leads us to prepare for the usual, but real risk comes from the unpredictable. Just as Wald’s insight helped protect unseen vulnerabilities, holding assets like precious metals, international stocks, and cash reserves provide the cushion needed when unseen shocks hit.

7. Behavioural Risks

Many investors panicked and sold during the 2020 COVID-19 market drop, missing the swift recovery. Survivorship bias leads us to overestimate our ability to stay rational, believing we will be like those who succeeded. To mitigate this, automate contributions, set clear rebalancing rules, and stay disciplined. Protecting against your own biases is akin to armouring those parts of your plan that seem least vulnerable but are actually most at risk.

8. Asset Allocation: Armour All Parts of the Plane

Setting an asset allocation during a boom and never revisiting it is like adding armour where you see bullet holes and ignoring the rest. The market environment constantly changes, and so should your allocation. Regularly review and rebalance to ensure that you are armoured for all potential threats, not just the obvious ones.

Seeing the Invisible Holes

The most valuable data often lies in what we can’t see: the planes that didn’t return, the funds that failed, and the strategies that seemed promising but weren’t. Ignoring these is akin to armouring the wrong parts—you might feel safer, but the real risk remains.

Just as military planners almost armoured the wrong parts of their bombers, investors are often tempted to reinforce already strong areas of their portfolios. The key insight is recognising overlooked risks that don't appear in success stories. Many assume quality companies will continue to dominate, but history is full of examples—Kodak, Blockbuster, Nokia, Sears—each seemed invincible until shifts in technology, poor decisions, or changes in consumer behaviour led to their decline.

Today’s investment landscape demands that we look past what’s obvious—that we find the holes that aren’t there, just like Wald did in that wartime hangar. One powerful way to protect against these unseen risks is through asset allocation. Owning a diverse mix of dissimilar assets, such as stocks, bonds, real estate, and alternative investments, provides resilience. Different asset classes and strategies tend to react differently to market conditions, offering protection against invisible holes and ensuring that all of your risk isn’t concentrated in one vulnerable spot.

The next time you evaluate your portfolio, remember the bombers that never made it back. Look beyond the visible successes, diversify wisely, and make sure every part of your portfolio is armoured against unseen risks.

So ask yourself: What invisible holes are you missing, and what are you going to do about it?