It's often said that financial markets are driven by two competing emotions, greed and fear. Skilled investors attempt to control these emotions, and to capitalize on the failure of other investors in that regard. Warren Buffett has repeatedly said that while he focuses on fundamental value, his behaviour is dictated by a simple dictum: "Be fearful when others are greedy, and be greedy when others are fearful."
There's a third emotion that requires constant management: boredom.
It's exciting when assets go up or down by a lot. Generally, they don't. It's boring to watch things that don't do much in a hurry. And it's boring to wait for the market to validate your assessment of fundamental value.
It's boring to sift through financial statements or filings and then discover a company is fairly valued. It's boring to wait for a better opportunity to purchase an asset. It's boring to own a company that has excellent prospects but that no-one has ever heard of (or is likely to ever hear of). It's boring to remain invested in a company that is quietly compounding its value (and whose business you understand well), when new opportunities appear more alluring. It's boring to invest the same way you always have, when the world around is full of "sophisticated" investors raising a lot of money for complex strategies.
Sitting through long periods of boredom is a prerequisite for the fundamental investor. Dealing with this boredom is every bit as important as avoiding being swept away when valuations are high, or being decisive when it seems like businesses, economies or financial markets will never improve.
Pascal said, "All men's miseries derive from not being able to sit in a quiet room alone." I doubt he had investment portfolios in mind, but subduing the third emotion of investing goes a long way to preventing misery of the financial variety.
Monday, October 19, 2015
Sunday, October 11, 2015
Sometimes An Investor Wears A Mask So Long...
The debate over "nature vs. nurture" pervades biological science and the social sciences. Unsurprisingly, the debate even wends its way into the world of investing. Are great investors born, or can they be moulded? In a previous post, I took issue with Warren Buffett's search for "someone genetically programmed to recognize and avoid serious risks" (emphasis mine). But Buffett himself has always been a proponent of how investors - and people, more generally - can change themselves through the force of habit. In a speech to business school students, he said "You can't change the way you were wired much, but you can change a lot of what you do with that wiring. It's the habits you generate that matter." I watched that speech on YouTube maybe seven years ago, and was deeply struck by this multi-billionaire preaching the virtue of habits and character, rather than cutthroat competition or iridescent intellect, as the way to success.
I consider myself pretty firmly in the habit-forming camp. Many of you have probably seen hackneyed secret agent/undercover cop movies, and heard some version of the cliche "Sometimes a person wears a mask so long, he doesn't know which one is his real face." That's usually meant to convey the costs of duplicity, but the flipside of that seems true to me as well: act in the appropriate way (despite your instincts to do otherwise), and eventually that will become second nature. Easier said than done, perhaps, but it still seems true. As with investing and corporate strategy, a long horizon helps. For example, business strategy researcher Robert M. Grant recommends taking an inventory of a firm's resources and capabilities as a start to formulating corporate strategy. Then, he suggests (a) exploiting key strengths, (b) managing key weaknesses, and (c) capitalizing on "superfluous strengths" (more on this below). He notes, "Converting weakness into strength is likely to be a long-term task for most companies. In the short to medium term, a company is likely to be stuck with the resources and capabilities that it inherits from the previous period." The same is true for individuals.
That said, I don't think that it's a simple matter of identifying one's bad habits, targeting good habits, and then replacing the bad with the good. Rather, it is a constant and dynamic process of change and growth. My thinking on this has been influenced by a variety of sources:
- Neuroplasticity, i.e. the notion that the brain is constantly changing and rewiring itself
- Growth mindset, i.e. Carol Dweck's work on how attitude shapes success.
- Non-self (or anatta), i.e. a tenet of Buddhist thought, which, in the words of Stephen Batchelor, focuses on "an authentic vision of the changing, contingent, and creative character of ourselves and the world"
Given these prior beliefs, I see these precepts in action everywhere. Over the past 2 weeks alone, I came across examples which supported my notion (possibly confirmation bias, I'll admit!):
- Kaizen, i.e. the Japanese philosophy of continuous improvement
- Life as improvisational art, in the words of writer Mary Catherine Bateson
- "Superforecasters" - as written about by Philip Tetlock and Dan Gardner, and summarized by Michael Maubossin - who see themselves as being in perpetual beta mode, constantly updating their knowledge and revising their beliefs. (Side note: If I were ever to get a tattoo, a pretty strong contender would have to be, "Beliefs are hypotheses to be tested, not treasures to be protected.")
- Sufi poet Rumi: "Yesterday I was clever, so I wanted to change the world. Today I am wise, so I am changing myself."
I don't want to give the impression that I discount "nature" completely. In a prior post, I referred to investor Guy Spier. Spier has gone so far as to place a bronze bust of Charlier Munger in his office, while simultaneously acknowledging that he will never be Munger or Buffett, and can only be the best version of himself. I, similarly, have spent a great deal of time thinking about how best to achieve high risk-adjusted returns in a manner that is both in line with my personal temperament and actually fun.
And yet even these inherent characteristics can be harnessed creatively. Again, there are parallels with corporate strategy. As mentioned earlier, Grant suggests (a) exploiting key strengths, (b) managing key weaknesses, and (c) capitalizing on "superfluous strengths". As an example of (b), he cites Harley-Davidson, who is unable to compete with Honda and Yamaha on technology, and has instead chosen to make a virtue out of its outmoded technology and traditional designs as a key part of the Harley-Davidson experience. Item (c) refers to developing innovative strategies that turn apparently inconsequential strengths into key strategy differentiators. As an example of this, he cites the brokerage firm Edward Jones, whose network of brick-and-mortar offices appeared outdated in the Internet era. However, "by emphasizing personal service, trustworthiness, and its traditional, conservative investment virtues, Edward Jones has built a successful contrarian strategy based on its network of local offices."
So if I had to summarize this rambling collection of thoughts, it would be as follows: We have some inherent endowment of qualities, but we can use them creatively, and can in fact change those qualities far beyond what we thought was possible over a long enough period of time, given sufficient determination. Or perhaps more succinctly, sometimes an investor wears a mask so long, he doesn't know which one is his real face. And that can be a good thing.
I consider myself pretty firmly in the habit-forming camp. Many of you have probably seen hackneyed secret agent/undercover cop movies, and heard some version of the cliche "Sometimes a person wears a mask so long, he doesn't know which one is his real face." That's usually meant to convey the costs of duplicity, but the flipside of that seems true to me as well: act in the appropriate way (despite your instincts to do otherwise), and eventually that will become second nature. Easier said than done, perhaps, but it still seems true. As with investing and corporate strategy, a long horizon helps. For example, business strategy researcher Robert M. Grant recommends taking an inventory of a firm's resources and capabilities as a start to formulating corporate strategy. Then, he suggests (a) exploiting key strengths, (b) managing key weaknesses, and (c) capitalizing on "superfluous strengths" (more on this below). He notes, "Converting weakness into strength is likely to be a long-term task for most companies. In the short to medium term, a company is likely to be stuck with the resources and capabilities that it inherits from the previous period." The same is true for individuals.
That said, I don't think that it's a simple matter of identifying one's bad habits, targeting good habits, and then replacing the bad with the good. Rather, it is a constant and dynamic process of change and growth. My thinking on this has been influenced by a variety of sources:
- Neuroplasticity, i.e. the notion that the brain is constantly changing and rewiring itself
- Growth mindset, i.e. Carol Dweck's work on how attitude shapes success.
- Non-self (or anatta), i.e. a tenet of Buddhist thought, which, in the words of Stephen Batchelor, focuses on "an authentic vision of the changing, contingent, and creative character of ourselves and the world"
Given these prior beliefs, I see these precepts in action everywhere. Over the past 2 weeks alone, I came across examples which supported my notion (possibly confirmation bias, I'll admit!):
- Kaizen, i.e. the Japanese philosophy of continuous improvement
- Life as improvisational art, in the words of writer Mary Catherine Bateson
- "Superforecasters" - as written about by Philip Tetlock and Dan Gardner, and summarized by Michael Maubossin - who see themselves as being in perpetual beta mode, constantly updating their knowledge and revising their beliefs. (Side note: If I were ever to get a tattoo, a pretty strong contender would have to be, "Beliefs are hypotheses to be tested, not treasures to be protected.")
- Sufi poet Rumi: "Yesterday I was clever, so I wanted to change the world. Today I am wise, so I am changing myself."
I don't want to give the impression that I discount "nature" completely. In a prior post, I referred to investor Guy Spier. Spier has gone so far as to place a bronze bust of Charlier Munger in his office, while simultaneously acknowledging that he will never be Munger or Buffett, and can only be the best version of himself. I, similarly, have spent a great deal of time thinking about how best to achieve high risk-adjusted returns in a manner that is both in line with my personal temperament and actually fun.
And yet even these inherent characteristics can be harnessed creatively. Again, there are parallels with corporate strategy. As mentioned earlier, Grant suggests (a) exploiting key strengths, (b) managing key weaknesses, and (c) capitalizing on "superfluous strengths". As an example of (b), he cites Harley-Davidson, who is unable to compete with Honda and Yamaha on technology, and has instead chosen to make a virtue out of its outmoded technology and traditional designs as a key part of the Harley-Davidson experience. Item (c) refers to developing innovative strategies that turn apparently inconsequential strengths into key strategy differentiators. As an example of this, he cites the brokerage firm Edward Jones, whose network of brick-and-mortar offices appeared outdated in the Internet era. However, "by emphasizing personal service, trustworthiness, and its traditional, conservative investment virtues, Edward Jones has built a successful contrarian strategy based on its network of local offices."
So if I had to summarize this rambling collection of thoughts, it would be as follows: We have some inherent endowment of qualities, but we can use them creatively, and can in fact change those qualities far beyond what we thought was possible over a long enough period of time, given sufficient determination. Or perhaps more succinctly, sometimes an investor wears a mask so long, he doesn't know which one is his real face. And that can be a good thing.
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