Definition via Wikipedia :
The Dunning Kruger Effect – is a cognitive bias in which “people reach erroneous conclusions and make unfortunate choices but their incompetence robs them of the metacognitive ability to realize it.” The unskilled therefore suffer from illusory superiority, rating their own ability as above average, much higher than in actuality; by contrast, the highly skilled underrate their abilities, suffering from illusory inferiority. This leads to a perverse result where less competent people will rate their own ability higher than more competent people. It also explains why actual competence may weaken self-confidence because competent individuals falsely assume that others have an equivalent understanding. “Thus, the miscalibration of the incompetent stems from an error about the self, whereas the miscalibration of the highly competent stems from an error about others
Kruger and Dunning noted a number of previous studies which tend to suggest that in skills as diverse as reading comprehension, operating a motor vehicle, and playing chess or tennis, “ignorance more frequently begets confidence than does knowledge” (as Charles Darwin put it). They hypothesized that with a typical skill which humans may possess in greater or lesser degree:
- Incompetent individuals tend to overestimate their own level of skill.
- Incompetent individuals fail to recognize genuine skill in others.
- Incompetent individuals fail to recognize the extremity of their inadequacy.
- If they can be trained to substantially improve their own skill level, these individuals can recognize and acknowledge their own previous lack of skill.
Listen to a radio show on the Dunning Kruger Effect (Via mindhacks)
ABC Radio National’s Science Show has a fantastic short segment on the ‘unskilled and unaware of it’ effect, also known as the Dunning-Kruger effect, where people with low levels of ability in a certain field vastly over-rate their talents because they lack the skills to judge their own competence.
Miguel’s definition for value investors and decision makers.
Essentially the Dunning Kruger Effect plays on your perceived circle of competence. Instead of having a tight boundary around concepts, ideas, and skills which you know you have mastered; the effect reveals holes in your circle of competence. In other words, you think you know more than you actually know. This is very very dangerous! Ask any equity investor trying convertible bond arb with 40xleverage!