Does Value Investing Work? Learn About Other Investors


Rather than insult the reader, why not turn the question around and ask why do most people UNDER-perform the market?  The chart above and below are self-explanatory. People chase what is moving up while ignoring value. It isn’t the asset that you buy but the PRICE you pay for that asset.



I would probably agree that Price-line (PCLN) is a higher quality company with less investment capex than miners, but what price are you willing to pay?  I certainly will study PCLN to learn how the stock performed so well.  Damn, I missed that one, but can we learn something from PCLN’s business model?

Gold and Silver (CEF) and various index of miners:

Gold Stocks

Go where the outlook is bleakest.

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Learn about other investors:

A Dozen Things I’ve Learned from Philip Fisher and Walter Schloss About Investing

1. “I had made what I believe was one of the more valuable decisions of my business life. This was to confine all efforts solely to making major gains in the long-run…. There are two fundamental approaches to  investment.  There’s the approach Ben Graham pioneered, which is to find  something intrinsically so cheap that there is little chance of it having a big  decline. He’s got financial safeguards to that. It isn’t going to go down much,  and sooner or later value will come into it.  Then there is my approach, which is to find  something so good–if you don’t pay too much for it–that it will have very,  very large growth. The advantage is that a bigger percentage of my stocks is apt  to perform in a smaller period of time–although it has taken several years for  some of these to even start, and you’re bound to make some mistakes at it. [But]  when a stock is really unusual, it makes the bulk of its moves in a relatively  short period of time.”  Phil Fisher understood (1) trying to predict the direction  of a market or stock in the short-term is not a game where one can have an advantage versus the house (especially after fees); and (2) his approach was different from Ben Graham.

2. “I don’t want a lot of good investments; I want a few outstanding ones…. I believe that the greatest long-range investment profits are never obtained by investing in marginal companies.”  Warren Buffett once said: “I’m 15%  Fisher and 85% Benjamin Graham.”  Warren Buffett is much more like Fisher in 2013 than the 15% he once specified, but only he knows how much. It was the influence of Charlie Munger which moved Buffet away from a Benjamin Graham approach and their investment in See’s Candy  was an early example in which Berkshire paid up for a “quality” company.  Part of the reason this shift happened is that the sorts of companies that Benjamin Graham liked no longer existed the further way the time period was from the depression.

3. “The wise investor can profit if he can think independently of the crowd and reach the rich answer when the majority of financial opinion is leaning the other way. This matter of training oneself not to go with the crowd but to  be able to zig when the crowd zags, in my opinion, is one of the most important fundamentals of investment success.” The inevitable math is that you can’t beat the crowd if you are the crowd, especially after fees are deducted.

4. “Usually a very long list of securities is not a sign of the brilliant investor, but of one who is unsure of himself. … Investors have been so oversold on diversification that fear of having too many eggs in one basket has caused  them to put far too little into companies they thoroughly know and far too much in others which they know nothing about.” For the “know-something” active investor like Phil Fisher, wide diversification is a form of closet indexing.  A “know-something”  active investor must focus on a relatively small number of stocks if he or she expects to outperform a market.  By contrast, “know-nothing” investors (i.e., muppets) should buy a low fee index fund.

5. “If the job has been correctly done when a common stock is purchased, the time to sell it is almost never.” Phil Fisher preferred a holding period of almost forever (e.g., Fisher bought Motorola in 1955 and held it until 2004). The word “almost” is important since every company is in danger of losing its moat.

6. “Great stocks are extremely hard to find. If they weren’t, then everyone would own them.  The record is crystal clear that fortune – producing growth stocks can be found. However, they cannot be found without hard work and they  cannot be found every day.”  Fisher believed that the “fat pitch” investment opportunity is delivered rarely and only to those investors who are willing to patiently work to find them.

7. “Focus on buying these companies when they are out of favor, that is when, either because of general market conditions or because the financial community at the moment has misconceptions of its true worth, the stock is selling  at prices well under what it will be when it’s true merit is better understood.” Like Howard Marks, Fisher believed that (1) business cycles and (2) changes in Mr. Market’s attitude are inevitable.  By focusing on the value of individual stocks (rather than just price) the  investor can best profit from these inevitable swings.

8. “The successful investor is usually an individual who is inherently interested in business problems.” A stock is a part ownership of a business. If you do not understand the business you do not understand that stock.  If you  do not understand the business you are investing in you are a speculator, not an investor.

9. “The stock market is filled with individuals who know the price of everything, but the value of nothing.” Price is what you pay and value is what you get.  By focusing on value Fisher was able to outperform as an investor even  though he did not look for cigar butts.

10. “It is not the profit margins of the past but those of the future that are basically important to the investor.” Too often people believe that the best prediction about the future is that it is an extension of the recent past.

11. “There is a complicating factor that makes the handling of investment mistakes more difficult. This is the ego in each of us. None of us likes to admit to himself that he has been wrong. If we have made a mistake in buying a stock  but can sell the stock at a small profit, we have somehow lost any sense of having been foolish. On the other hand, if we sell at a small loss we are quite unhappy about the whole matter. This reaction, while completely natural and normal, is probably one  of the most dangerous in which we can indulge ourselves in the entire investment process. More money has probably been lost by investors holding a stock they really did not want until they could ‘at least come out even’ than from any other single reason. If  to these actual losses are added the profits that might have been made through the proper reinvestment of these funds if such reinvestment had been made when the mistake was first realized, the cost of self-indulgence becomes truly tremendous.”  Fisher  was very aware of the problems that loss aversion bias can cause.

12. “Conservative investors sleep well.”  If you are having trouble sleeping due to worrying about your portfolio, reducing risk is wise. Life is too short to not sleep well, but also fear can result in mistakes.

Walter Schloss

1. “I think investing is an art, and we tried to be as logical and unemotional as possible. Because we understood that investors are usually affected by the market, we could take advantage of the market by being rational. As [Benjamin]  Graham said, ‘The market is there to serve you, not to guide you!’.”  Walter Schloss was the closest possible match to the investing style of Benjamin Graham.  No one else more closely followed the “cigar butt” style of investing of Benjamin Graham.  In  other words, if being like Benjamin Graham was a game of golf, Walter Schloss was “closest to the pin.”  He was a man of his times and those times included the depression which had a profound impact on him.  While his exact style of investing is not possible  today, today’s investor’s still can learn from Walter Schloss.  It is by combining the best of investors like Phil Fisher and Walter Schloss and matching it to their unique skills and personality that investors will find the best results.  Warren  Buffet once wrote in a letter:  “Walter outperforms managers who work in temples filled with paintings, staff and computers… by rummaging among the cigar butts on the floor of capitalism.”   When Walter’s son told him no such cigar butt companies existed any  longer Walter told his son it was time to close the firm.  The other focus of Walter Schloos was low fees and costs. When it came to keeping overhead and investing expenses low, Walter Schloss was a zealot.

2. “I try to establish the value of the company.  Remember that a share of stock represents a part of a business and is not just a piece of paper. … Price is the most important factor to use in relation to value…. I believe stocks  should be evaluated based on intrinsic worth, NOT on whether they are under or over priced in relationship with each other…. The key to the purchase of an undervalued stock is its price COMPARED to its intrinsic worth.”

3.”I like Ben’s analogy that one should buy stocks the way you buy groceries not the way you buy perfume… keep it simple and try not to use higher mathematics in you analysis.” Keeping emotion out of the picture was a key part of  the Schloss style. Like Ben Graham he as first and foremost rational.

4. “If a stock is cheap, I start buying. I never put a stop loss on my holdings because if I like a stock in the first place, I like it more if it goes down. Somehow I find it difficult to buy a stock that has gone up.” 

5. “I don’t like stress and prefer to avoid it, I never focus too much on market news and economic data. They always worry investors!” Like all great investors in this series, the focus of Schloss was on individual companies not  the macro economy.  Simpler systems are orders of magnitude easier to understand for an investor.

6. “The key to successful investing is to relate value to price today.” Not only did Schloss not try to forecast the macro market, he did not really focus forecasting the future prospects of the company.  This was very different  than the Phil Fisher approach which was focused on future earnings.

7. “I like the idea of owning a number of stocks. Warren Buffet is happy owning a few stocks, and he is right if he is Warren….”Schloss was a value investor who also practiced diversification.  Because of his focus on obscure  companies and the period in which he was investing, Walter was able to avoid closet indexing.

8. “We don’t own stocks that we’d never sell.  I guess we are a kind of store that buys goods for inventory (stocks) and we’d like to sell them at a profit within 4 years if possible.”  This is very different from a Phil Fisher  approach where his favorite holding period is almost forever. Schloss once said in a Colombia Business school talk that he owned “some 60-75 stocks”.

9.  “Remember the word compounding.  For example, if you can make 12% a year and reinvest the money back, you will double your money in 6 years, taxes excluded.  Remember the rule of 72.  Your rate of return into 72 will tell you  the number of years to double your money.” Schloss felt that “compounding could offset [any advantage created by] the fellow who was running around visiting managements.”

10.  “The ability to think clearly in the investment field without the emotions that are attached to it is not an easy undertaking. Fear and greed tend to affect one’s judgment.” Schloss was very self-aware and matched his investment  style to his personality. He said once” We try to do what is comfortable for us.”

11. “Don’t buy on tips or for a quick move.”

12.  “In thinking about how one should invest, it is important to look at you strengths and weaknesses. …I’m not very good at judging people. So I found that it was much better to look at the figures rather than people.” Schloss knew  that Warren Buffett was a better judge of people than he was so Walter’s approach was almost completely quantitative.  Schloss knew to stay within his “circle of competence”.  Schloss said once: “Ben Graham didn’t visit management because he thought figure told  the story.”

A Dozen Things I’ve Learned from Michael Price abut Investing

1. “Of course, the macro questions are the hardest ones to figure out.  I am not trained to be an economist, and I don’t think economists get it anyway.   I am left with the bottoms-up, 10Q by 10Q analysis, and hope I have enough sense of where we are in the cycle…”  Michael Price is another successful investor who ignores macro forecasts in favor of a bottoms-up analysis.

2. “Never, never pay attention to what the market is doing. … Stay away from the crowd.” Mr. Market is not always wise. He sometimes will sell you a stock at a bargain or pay you more than it is worth.  The art of knowing the difference is value investing. Falling in with the crowd will put you under the sway of Mr. Market because Mr. Market is the crowd.

3. “The key question in investing is, what is it worth, and what am I paying for it?  Intrinsic value is what a businessman would pay for total control  of the business with full due diligence and a big bank line. The biggest indicator to me is where the fully controlled position trades, not where the market trades it or where the stock trades relative to comparables.”  By thinking like a business owner Michael Price becomes a better investor. Buying share of stock in a business is owning a partial stake in a business.  If a share of stock is not a partial stake in a business, what exactly is it?  Anyone who thinks a share of stock is a piece of paper that people trade back and forth is in deep trouble as an investor. 

4. “We like to buy a security only if we think it is selling for at least 25% less than its market value.” It is refreshing to hear an investor assign a number of a “margin of safety”.  My assumption is that this 25% figure is a rule of thumb.  Many value investors would say that the margin of safety they are looking for is relative based on the risk of the particular business (e.g., the risk of a bakery business is not the same as the risk of a biotechnology company).

5. “If  you really [want] to find value, you [must] do original work, digging through stuff no one else [wants] to look at. …The really important thing is to eliminate the Wall Street consensus, the Wall Street research. You need to understand where the company is in the world and what the competition is for the products, whether the products are any good, and whether or not the company has any pricing power or barriers  to entry. … Think about the business, think about what you see without any input from Wall Street,  do [your own] primary research.”   To generate alpha in investing you must occasionally be contrarian and be right about that contrarian view. In short, you must find a mispriced bet. To find a mispriced bet you are best positioned if you are looking where fewer people are looking.

6. “You can get lost in the spreadsheets.  You can’t rely on the projections that you put in the spreadsheets alone…  Depending too much on the Excel spreadsheet and forecast of discounted cash flows is a big mistake.”  Extrapolating the past into the future is a parlor trick favored by consultants and analysts. This process may seem logical to many people but it is pregnant with danger.  Complex adaptive systems produce changes that can’t be extrapolated. Things that can’t go on forever, don’t.

7. “The worst mistake investors make is taking their profits too soon, and their losses too long.”  This is classic “loss aversion” at work. People hate taking a loss even if it is sunk. Unless you are a trained investor your emotions can get the best of you.

8. “A good time to start in [the investing] business is when markets are terrible…. We wait for bad news… I love to read about losses.” A value investor likes prices to fall, especially when they have dry powder and can take advantage of the drop. A classic value investor looks at a price drop of a stock they like as a chance to buy more, whereas the ordinary investor may panic and sell.

9. “I couldn’t care less about getting zero on my cash. That’s ammunition.” Cash has optionality. Yes, that optionality has a cost which includes inflation.  Especially when inflation is low and prices of stocks are high, the price of the optionality can be well worth paying.

10. “For rates of return, smaller is better.  Returning excess returns at $20-$30 billion is not so easy.”  The more money an investor must put to work, the harder it is to generate investing alpha. Many opportunities are small in size relative to a big fund.  People only get so many investable ideas during the course of a year and some of them are not very big.  Another risk is psychological since sometimes an investor will compromise their principles on a big investment just to be able to put money to work.

11. “We know it’s easy to get swept away in a growth market. But I’ve been in this business more than 25 years and I’ve watched investors figure out a way to justify incredible multiples, only to see valuations  collapse back to the underlying worth of the company. The key in the business is weathering the bear markets, not outperforming the bull markets.”  Value investing shines brightest when stocks are falling in price since they were purchased based on value.  Value investing principles can also help you avoid the flip side of bubbles (panics).

12. “A lot of people have the brains.  It is the judgment with the brains that matters, and that comes with experience and from thinking about things in the right way.” Intelligence without judgment and the right temperament won’t make someone a good investor. Intelligence can actually be a problem since the smarter you think you are, the more you may get into trouble trying to predict things that are not predictable.

1. A Dozen Things I’ve Learned From Seth Klarman
2. A Dozen Things I’ve Learned from Bill Ruane about Investing
3. A Dozen Things I’ve Learned About Investing from Howard Marks
4. A Dozen Things About Investing I’ve Learned from George Soros
5.  A Dozen Sentences Explaining what I’ve Learned from Warren Buffett about Investing
6. A Dozen Things I’ve Learned from John Templeton about Investing
7. A Dozen Things I’ve Learned About Investing From Peter Lynch
8. A Dozen Things I’ve Learned from Ray Dalio about Investing
9. Charlie Munger…  -try the section of the linked Munger quotations page on “Efficient Market”
10. Michael Price    [coming soon]

A Dozen Things I’ve Learned from Nassim Taleb about Optionality/Investing

 1. ”Optionality is the property of asymmetric upside (preferably unlimited) with correspondingly limited downside (preferably tiny).”  Venture capital, when practiced properly by a top tier firm, is a classic example of a business that benefits from optionality. All you can lose financially in venture capital is what you invest and your upside can be more than 1000X of what you invested.  Another example of optionality is cash held by a disciplined patient value investor with the temperament to not buy until Mr. Market is fearful.  As just one example, Warren Buffett did exactly this during the recent financial panic and earned $10 Billion by putting his cash to work.  Seth Klarman, Howard Marks and other value investors use dry powder in the form of cash to harvest optionality since Mr. Market is bi-polar.

2. ”‘Long volatility’ in trader parlance, has positive optionality.” As an example, the optionality of cash allows the holder to buy assets from people who were “short volatility” when a crisis hits. The wise value investor sits and waits patiently for Mr. Market to deliver a fearful market and when the intrinsic value of a company’s shares presents a “margin of safety” buys in quantity.

3. “If you ‘have optionality,’ you don’t have much need for what is commonly called intelligence, knowledge, insight, skills, and these complicated things that take place in our brain cells. For you don’t have to be right that often. All you need is the wisdom to not do unintelligent things to hurt yourself (some acts of omission) and recognize favorable outcomes when they occur. (The key is that your assessment doesn’t need to be made beforehand, only after the outcome.)”  Being able to make decisions which do not require correctly forecasting the future is a wonderful thing.  Not one of the great value investors identified in the series of posts in this blog relies on macro forecasts of the future.  Instead, value investors use the optionality of cash to buy after the outcome exists (i.e., a significant drop in intrinsic value). Regarding venture capital, Warren Buffett believes:  “If significant risk exists in a single transaction, overall risk should be reduced by making that purchase one of many mutually- independent commitments.  Thus, you may consciously purchase a risky investment – one that indeed has a significant possibility of causing loss or injury – if you believe that your gain, weighted  for probabilities, considerably exceeds your loss, comparably weighted, and if you can commit to a number of similar, but  unrelated opportunities.  Most venture capitalists employ this strategy.”

4.  “Optionality can be found everywhere if you know how to look.” Living in a city, going to parties, taking classes, acquiring entrepreneurial skills, having cash in your bank account, avoiding debt are all examples of activities which increase optionality.  As another example, a venture capitalist who invests in a team which (1) is strong technically, (2) has sound business judgment and (3) addresses a huge market opportunity has acquired optionality since the company can often find success with an offering the founders did not conceive from the beginning, but rather found as they went along.

5. “Financial options may be expensive because people know they are options and someone is selling them and charging a price—but most interesting options are free, or at the worst, cheap.”  Some of the most important options are not obviously financial in nature and for that reason are not labeled as “options.” In those cases it is more likely that you will be able to purchase or acquire a mispriced option since other people often don’t understand what is involved (e.g., investment bankers have cheap options since losses are socialized when huge).

6. “Make sure the optionality is not priced by the market.” It is possible to overpay for optionality. For example, what venture capitalist Bill Gurley called “frothy trades in the bubbly late stage private market” in 2011 is a great example of overpaying for optionality.

7. “[Avoid] companies that have negative optionality.” Companies (1) focused on a niche market,  (2) have employees with limited technical skills, (3) which raised too much money at an inflated early valuation or(4)  are highly leveraged are examples of companies with negative optionality.

8. “A rigid business plan gets one locked into a preset invariant policy, like a highway without exits —hence devoid of optionality.”  I am at my self-imposed 999 word limit so what follows including this quotation must largely stand on its own without commentary. 

9. “Optionality… explains why top-down centralized decisions tend to fail.”

10. “Optionality works by negative information, reducing the space of what we do by knowledge of what does not work. For that we need to pay for negative results.”

11. “That which benefits from randomness (increased potential for upside in the presence of fluctuations) is convex.  That which is harmed by randomness, concave.  Convexity propositions should be embraced – concave ones, avoided like the plague….  ‘optionality’ is what is behind the convexity of research outcomes. An option allows its user to get more upside than downside as he can select among the results what fits him and forget about the rest (he has the option, not the obligation)…. Payoffs from research are from Extremistan; they follow a power-law type of statistical distribution, with big, near-unlimited upside but, because of optionality, limited downside.” 

12. “Like Britain in the Industrial Revolution, America’s asset is, simply, risk taking and the use of optionality, this remarkable ability to engage in rational forms of  trial and error, with no comparative shame in failing again, starting again, and repeating failure.”  Entrepreneurs harvest optionality when they tinker and experiment as they run their businesses and as a positive externality benefit their city/region/nation/the world in the aggregate by generating productivity and genuine  growth in the economy even if legions of entrepreneurs may fail.   Taleb: “Most of you will fail, disrespected, impoverished, but we are grateful for the risks you are taking and the sacrifices you are making for the sake of the economic growth of the planet and pulling others out of poverty. You are the source of our antifragility. Our nation thanks you.”

A Dozen Things I’ve Learned from Ray Dalio about Investing

1.  “The economy is like a machine.” The bottoms-up way Ray Dalio approaches the economy is analogous to value investing.  You start with the simplest possible system since that is the easiest system to understand. For a value investor that relatively simple system is an individual company. Dalio starts instead with the simplest part of the economy which is the transaction and then build his models bottoms-up. To do the reverse (adopt a top-down approach) is to start with a nest of complex adaptive systems which makes market outperformance after fees impossible. Ray Dalio is humble about his bottoms-up process and so has adopted an approach where he invests in 15 uncorrelated macro trends at a time so he is diversified.  In making 15 bets on macro trends, Dalio has built the case for each bet from micro (bottoms-up) foundations.

2. “Alpha is zero sum. In order to earn more than the market return, you have to take money from somebody else.”  John Bogle makes the same point and adds that fees must be considered as part of this inevitable math.  You are not going to beat people who invest as a profession by spending a few minutes or even a few hours a week looking at Yahoo Finance.

3. “If you’re going to come to the poker table, you’re going to have to beat me. … We have 1500 people who work at Bridgewater. We spend hundreds of millions of dollars on research and so on, we’ve been doing this for 37 years.”   Ray Dalio can build his bottoms-up “machine” model of the economy better than others because, as Paul Volker once noted, Bridgewater “has a bigger staff, and produces more relevant statistics and analyses, than the Federal Reserve.” The idea that other investors are going to beat Ray Dalio at this game is folly. Why don’t macroeconomists do what Ray Dalio does? Because macroeconomists don’t have the bottoms-up data that Ray Dalio has at Bridgewater, so they adopt math driven models that are built on in fake assumptions. Unsurprisingly, the top-down macroeconomic models have less than zero ability to outperform the market.

4. “It all comes down to interest rates. As an investor, all you’re doing is putting up a lump-sump payment for a future cash flow…. The big question is:  When will the term structure of interest rates change? That’s the question to be worried about. .. He who lives by the crystal ball [in trying to forecast interest rates] will eat shattered glass.”  When you stop thinking you can forecast interest rates (especially in the short term) you are essentially no longer hitting your thumb repeatedly with a large metal hammer.  Your financial life gets a lot more attractive.

5. “The nature of investing is that a very small percentage of the people take money, essentially, in that poker game, away from other people who don’t know when prices go up whether that means it’s a good investment or if it’s a more expensive investment.  Too many investors are reactive decision-makers. If something has gone up, they say, ‘Ah, that’s a good investment.’ They don’t say, ‘That’s more expensive.’” Price is what you pay and value is what you get. Sometimes a great company has shares that are a poor value in terms of price. If you are patient, the bi-polar Mr. Market usually will send those prices down so the purchase becomes attractive.  Until then, wait.

6. “The biggest mistake investors make is to believe that what happened in the recent past is likely to persist. They assume that something that was a good investment in the recent past is still a good investment. Typically, high past returns simply imply that an asset has become more expensive and is a poorer, not better, investment.” Nothing good or bad goes on forever.  Business cycles are inevitable. Dalio has devoted an entire video explaining his views on business cycles.

7. “The most important thing you can have is a good strategic asset allocation mix. So, what the investor needs to do is have a balanced, structured portfolio – a portfolio that does well in different environments…. we don’t know that we’re going to win. We have to have diversified bets.”  The most important words here are” we don’t know if we are going to win.” The future is a probability distribution.

8. “Bonds will perform best during times of disinflationary recession, stocks will perform best during periods of growth, and cash will be the most attractive when money is tight. Translation: All asset classes have environmental biases. They do well in certain environments and poorly in others. “

9. “Owning the traditional equity-heavy portfolio is akin to taking a huge bet on stocks and, at a more fundamental level, that growth will be above expectations…. Levering up low-risk assets so you can diversify away from risky investments is risk reducing.”  This is a fundamental part of Ray Dalio’s “risk-parity” approach.  The leveraging of bonds in the fund has benefitted from the decades long bond bull market which has at least been a major side benefits of the risk-parity approach.

10. “There are two main drivers of asset class returns – inflation and growth… you can’t have debt rise faster than income. You can’t have income rise faster than productivity and the long term growth will be dependent on productivity.

11. “Risky things are not in themselves risky if you understand them and control them. If you do it randomly and you are sloppy about it, it can be very risky.” Ray Dalio is making the same point Warren Buffett makes when he says:  risk comes from not knowing what you are doing. Invest in your circle of competence.

 12. “You’re not going to win by trying to get what the next tip is – what’s going to be good and what’s going to be bad. You’re definitely going to lose.”  See my post on Howard Marks

A Dozen Things I’ve Learned from Bill Ruane about Investing

1. “Nobody knows what the market will do.” Investing based on macro market forecasting is folly.  Every investor in this series (over 20 now) believes in this bedrock principle. Where are the great investors who believe to the contrary?  Where is the list of great investors who outperform the market based on macro forecasting?  You may be thinking: “Ray Dalio at least.” A 25iq post on Ray Dalio is coming soon.

2. “Forget the level of the market. The only thing that matters is the specific situation having to do with your stocks.”  It is by focusing on understanding the very simplest systems (an individual company) that  an investor can outperform the market.  And more importantly, when you buy a stock for significantly less than its intrinsic value you do tend to catch a favorable wave caused by inevitable but unpredictable shifts in the economic cycle. You won’t time business cycles perfectly but you will find that they tend to work in your favor.  In other words, focusing on what a company is doing today by itself positions you well for tomorrow. And you have a margin of safety against mistakes and errors. If Bill Ruane has been put in a cave for many years and given no information about the general economy he would time business cycles well if all he had was information about the value of individual companies.

3. “Graham said, ‘Look at the company as a whole, not as a piece of paper. Then do a highly critical financial analysis’.” That Bill Ruane was at Colombia taking a class from Benjamin Graham at the same time as Warren Buffett is evident on this point. Investing is best accomplished when it is most businesslike. If you don’t understand the business you don’t understand the stock.  That you buy product x (for example, a flight to another city) does not mean you understand the business that provides the good or service.  Knowledge about a product or service is not the same as understanding a business (for example, an airline).  There are plenty of wonderful products and services made by companies that have a lousy business (often because all or nearly all of the value accrues to the consumer and little or nothing to the producer).

4.   “Put most of your money in six or seven stocks that you’ve really studied.” “Know-nothing” investors should buy a low fee index fund.  A very small number of “know-something” investors can outperform the market by concentrating their investments.  For a “know-something investor” concentration puts your money behind your best ideas and allows you to more intensively follow the company. Closet indexing is a fool’s errand.

5.  “Truth is in the details and this intensive research on stock ideas is of immense importance in avoiding big mistakes and  developing the positive convictions required to own and hold concentrated investment positions.” When the research behind a given investment is intensive it helps make you brave enough to buy when others are fearful and sell when others are greedy.  Doing your own work should provide you with an extra boost of confidence.

6.   “Use the results of [your own] own research, as opposed to using outside research.” If you are going to outperform the crowd you must have a view occasionally that is different than the crowd.  This requires that you acquire information that others do not have which is best found by doing your own research.  The importance of making contrarian bets is a corollary point to 5 above.  In other words, doing your own research makes you both braver and able to occasionally make contrarian bets and be right about those contrarian bets.

7. “You don’t need inside information. Don’t need charts and mumbo jumbo. It isn’t about momentum. It isn’t that guff the talking heads give you on CNBC.” There are lots of people who make their living selling noise to speculators and investors. Ignore them.  Noise peddlers do entertain some people with stories about momentum and charts that look like chicken entrails.  But don’t confuse what is speculation with investing.

8.   “If you get a great idea every other year, you’re really doing well.” The number of times you will be able to find an investment that is substantially in your favor that is also within your circle of competence is small.  Be patient, wait for the fat pitch, and then bet big on that swing.  If you are a “know-something investor” why not put a lot of money behind your very best ideas?

9.   “Staying small is simply good business. There aren’t that many great companies.“ It is beyond question that the size of the portfolio is a drag on performance.  The bigger the fund thae harder it is to outperform.  Bill Ruane famously closed his fund to new investors to be “fair” to his clients and to goose his own returns since his own money was in the fund as well.

10. “You don’t act rationally when you’re investing borrowed money…. Don’t borrow money.  If you are smart, you don’t need to. If you are dumb, you don’t want to.”  When you borrow you put the power of compounding in place as a force against your success.  It magnifies failure as well as success. But just as importantly, it can interfere with sound judgment.  Anything that makes you less rational as an investor is problematic.

11.  “Ben Graham said to be careful of the good idea because it is apt to be terribly overdone. … The psychology of the market can take the market up and down, much further than you think. Psychology feeds on itself.”  The economy moves in cycles that are impossible to predict with certainty.  If you accept this as inevitable the cycles will be your friend since at times they will give you a chance to buy low and sell high.  That Mr. Market is bipolar is his gift to you.

12. “I have always thought of myself as a meek little lamb who is afraid of being fleeced.”  Risk matters. Trust matters.  Character matters. Be careful out there.

A Dozen Things I’ve Learned from Benjamin Graham about Investing

1.  “The last time I made any market predictions was in the year 1914, when my firm judged me qualified to write their daily market letter based on the fact that I had one month’s experience.  Since then I have given up making predictions.” You will not outperform the market in making macroeconomic forecasts.  This series of blog posts makes that same point over and over.  The record of the great investors in this series demonstrates that there is a way to outperform the market without doing any macro forecasting.

2. “Abnormally good or abnormally bad conditions do not last forever.” The market will be cyclical even though you can’t beat the market with macro forecasts.  While it is in those swings that opportunity is created, it is by ignoring the temptation to make macro forecast that these great investors find success.  Yes, markets will swing up and down. No, you do not need to forecast those swings to be a successful investor.

3.  “The disciplined, rational investor … searches for stocks selling a price below their intrinsic value and waits for the market to recognize and correct its errors. It invariably does and share price climbs. When the price has risen to the actual value of the company, it is time to take profits, which then are reinvested in a new undervalued security.” When you focus on intrinsic value you need not time how and when the market inevitably swings.  By focusing on the micro (e.g., the value of individual company or bond), the macro takes care of itself.  By understanding the simple system you need not understand the complex adaptive systems in which it sits.

4.  “The function of the margin of safety is, in essence, that of rendering unnecessary an accurate estimate of the future.”Everyone makes errors and mistakes and so having insurance against those mistakes is wise.  With a margin of safety you can be somewhat wrong and still make a profit.  And when you are right you will make even more profit than you thought. Finding a margin of safety is not a common event so you must be patient. The temptation to “do something” while you wait is to hard for most people to resist. The best investors are those who have a temperament which is calm and rational. Excitement and expenses are the investor’s enemy.

5.  “Market quotations are there for [your] convenience, either to be take advantage of or to be ignored.” This is consistent with Buffett’s point that one should value the market for its pocketbook not its wisdom.  That the bipolar Mr. Market can offer you liquid is wonderful.  That the market is somehow wise at any given point is a bad bet since that happens relatively rarely as it swings back and forth.

6.  “The speculator’s primary interest lies in anticipating and profiting from market fluctuations. The investor’s primary interest lies in acquiring and holding suitable securities at suitable prices.”  and  “An investment is based on incisive, quantitative analysis, while speculation depends on whim and guesswork.” If you are trying to predict the behavior of a crowd you are a speculator.  Great masses of people have a strong tendency to herd which inevitably produces swings in prices. By focusing on value instead of price the intelligent investors can find profits over the long term.  ”In the short run, the market is a voting machine but in the long run it is a weighing machine.”

7.  “Investment is most intelligent when it is most businesslike. It is amazing to see how many capable businessmen try to operate on Wall Street with complete disregard of all the sound principles through which they have gained success in their own undertakings. ”  A share of stock is partial ownership of a business.  Too many investors abandon all that they have learned in business.

8.  “It is bad business to accept an acknowledge possibility of a loss of principal in exchange for a mere 1 or 2% of additional yearly income. If you are willing to assume some risk you should be certain that you can realize a really substantial gain in principal value if things go well.”  It is only acceptable to undertake a risky investment if you are properly compensated for that risk. Too often investors take on “return free risk.”

9.  ”There are two requirements for success in Wall Street. One you have to think correctly; and secondly you have to think independently.”  This is consistent with Howard Mark’s point that to beat the market you must occasionally take a position that is contrary to the market and you must be right about that view. Following the crowd in all cases guarantees that you will not outperform the market, especially after fees and costs.

10.  “To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks.” Buying an index fund is easy and smart for a know-nothing investor (dumb money becomes smart when it buys a low fee index fund).  Beating the market as a know-something investor (generating alpha after fees and costs) is hard.

10.   ”It is undoubtedly better to concentrate on one stock that you know is going to prove highly profitable, rather than dilute your results to a mediocre figure, merely for diversifications sake.” This is ideas advanced by Charlie Munger including: (1) if you are a know something investor, you must do an opportunity cost analysis when decided whether to buy a given stock and (2) closet investors are fooling others and maybe themselves too.

11.  “Exactly the same mathematical advantage which practically assures good results in the investment field may prove entirely ineffective where luck is the overshadowing influence.” This is consistent with Michael Mauboussin’s point that the investor’s focus should be on the right investing process not the investing result in a given case.  Luck, both good and bad, happens.

12.  “The investor’s chief problem – and even his worst enemy – is likely to be himself.”  My post on the psychology of investing is at:

A Dozen Things I’ve Learned from John Bogle About Investing



1. “In many areas of the market, there will be a loser for every winner so, on average, investors will get the return of that market less fees.”  The mathematics of what he describes is inescapable.  Costs and expenses are a huge drag on investing performance.

2. “The Prussian General Clausewitz has said, ‘The greatest enemy of a good plan is the dream of a perfect plan.’ And I believe that an index strategy is a good strategy.”  For what Warren Buffet calls the “know-nothing investor” the good plan ironically is better than the theoretically perfect plan.

3. “The case for indexing isn’t based on the efficient market hypothesis. It’s based on the simple arithmetic of the cost matters hypothesis.”  Too many people use Vanguard’s success as support for the EMH, when it isn’t.  Your inability to beat Mr. Market  does not mean that he is efficient. You are just lousy at predicting his irrational short term wiggles. That I can’t predict the behavior of a crazy high school friend has nothing to do with efficiency but rather unpredictable behavior. Mr. Market is both a benchmark and your competition. You need to beat him after fees and costs. Few can beat him and so most should be him.

4. “We all think we’re above average investors just like we all think we’re above average dressers, I suppose, above average intelligence. Probably we all think we’re above average lovers for all I know” and “intelligent investors …won’t be foolish enough to think that they can consistently outsmart the market.” One dysfunctional human bias is overconfidence which is a huge problem for people when they invest. Most people think they are one of the few people who can beat the market, which is one why active management will never disappear. 

5. “The investor is often his own worst enemy. … The marketing colossus known as the mutual fund industry provides the weaponry which enables investors’ to indulge their suicidal instincts… The principal role of the mutual fund is to serve its investors.”  Financial intermediaries want you to trade since trading generates fees.  When a broker calls suggesting that you trade he is like a barber suggesting that you get a haircut. You will get a haircut but it will most likely be a financial one which is unpleasant.  Making it too easy to trade and providing you with information that might cause you to trade are all too common. Often the best thing you can do is nothing.

6. “…maximum tax efficiency, low turnover, and low turnover cost, and no sales loads.” That people willingly pay sales loads of 5% when they buy an investment boggles the mind. That people think they can engage in frenetic trading and outperform the markets is less surprising but no less a problem as is tax inefficiency.

7. “Mutual funds are not mutual in that they’re controlled by an investment advisor, or manager, or promoter, or marketer who’s in business to earn money on his capital with the exception of Vanguard, everybody else is in business to serve the manager.” Vanguard is unique in that there are no shareholders since it is a non-profit.  That difference aligns the interests of investors and the fund.    

8. “Asset allocation is critically important.”   The categories of assets bought by investor gets too little attention from the average investor despite the fact that this decision is the biggest driver of returns.   Bogle has said that “A good place to start is a bond percentage that equals your age.  Although I don’t slavishly adhere to that rule…” 

9. “If you have trouble imaging a 20% loss in the stock market, you shouldn’t be in stocks.” and “The index guarantees your fair share of whatever returns the stock market bestows on us, but it also guarantees your fair share of whatever losses the stock market is mean spirited enough to inflict on us.” Stocks will periodically suffer a substantial drop in value. If you do not have the stomach to endure that drop you will inevitably sell at the bottom and so Bogle is telling anyone with this level of fear to stay out of stocks.  “Time is your friend; impulse is your enemy” believes Bogle and if you get fearful in the event of a big drop in the stock market you will sell at the worst possible time.  Investing in index funds will not prevent you from falling into this trap.

10. “A 401(k) is a thrift plan trying to be a retirement plan.  It was never designed to be a retirement plan.  To be a retirement plan, you have to keep putting money in and can’t be allowed to take money out, and you can’t be allowed to borrow from it.” To have a happy retirement you must save. A lot. A savings rate of 10- to 20% of income is not too high and the later in life you get the more you need to save. People are living longer and longer after they retire and sometimes retirement arrive suddenly before people expect.

11. “What can one say about a theory that works most of the time? Not a good idea to rely on it.” Bogle’s thought is consistent with the ideas of people like James Montier and Nassim Taleb. Picking up pennies in front of a steamroller is unwise. Sadly, intermediaries who do this for others in return for a fee can look surprisingly talented, like the turkey who looks good a few months before Thanksgiving. 

12. “The goal of the advisor shouldn’t be to beat the market by picking stocks or winning funds. Advisors add value by providing the discipline required for successful investing. They add value in areas like tax efficiency, risk management, estate planning and retirement planning.”  There are lots of ways a financial advisor can help you that do not involve stock picking, including setting savings goals, reducing taxes, estate planning and buying the right level of insurance. They can also help you avoid getting fearful when others are fearful and greedy when others are greedy.  

A Dozen Things I’ve Learned from James Montier about Investing

1. “We need to stop pretending that we can divine the future, and instead concentrate on understanding the present, and preparing for the unknown.”  Montier makes the same point as others have repeatedly made in this series of blog posts: “Frankly the three blind mice have more credibility than any macroforecaster at seeing what is coming.”  In addition to bets where possible future states are known and probabilities are known, there are bets which involve known states and unknown probabilities as well as bets which can be impacted by unknown future states where probabilities can’t be computed. Anyone who does not prepare for the unknown by recognizing it is unknown, is unwise.   Montier adds: “To admit ignorance is actually liberating in the extreme. It frees you from all the needless fretting over the things you can’t control. Once you have said you don’t know, you can think about how you deal with this ignorance.”It should not be a surprise then that people like him are focused on making investments which do not require macro forecasting.  Why not put capital to work in situations where the system which must be understood to make a profitable investment is orders of magnitude simpler? Why put capital at risk based on forecasts regarding the macro economy?  Why not focus on understanding the intrinsic value of individual companies?

2. “Why do we persist in using forecasts in the investment process? The answer probably lies in behavior known as anchoring. That is in the face of uncertainty we will cling to any irrelevant number as support. So it is little wonder that investors cling to forecasts, despite their uselessness.”  Montier is an expert on behavioral economics and knows that people will seek out and try to make bets based on forecasts despite the dismal track record of forecasters.  He recognizes that fighting overconfidence is a constant battle for even the intelligent investor since being aware of a dysfunctional bias is not enough to keep you from falling prey to it.   Nobel Prize winner Daniel Khaneman has written that despite devoting his life to behavioral economics he still suffers fallout from the same behavioral biases as everyone else.


3. “There is a simple, although not easy alternative [to forecasting]… Buy when an asset is cheap, and sell when an asset gets expensive…. Valuation is the primary determinant of long-term returns, and the closest thing we have to a law of gravity in finance.” One irony of value investing is that by focusing on the present moment and the intrinsic value of an individual stock, you best prepare yourself for the future which is impacted by macro phenomenon. Montier suggests blocking out the “noise peddlers” ranting about macro factors and instead focusing on intrinsic value.

3. “Process is the one aspect of investing that we can control. Yet all too often we focus on outcomes rather than process. Yet ironically, the best way of getting good outcomes is to follow a sound process.” Good outcomes are not necessarily the result of good processes. Similarly, bad outcomes do not necessarily result from a bad process.  In probabilistic activities like investing, process will dominate outcomes over the long term, so the best approach is to focus on process not outcome.


5. “Always insist on a margin of safety.” The best hedge against mistakes and bad luck is to have a margin of safety. My thoughts on margin of safety are here:

6. “This time is never different.” If someone says to you that the rules (particularly in a financial context) have changed and that X is no longer important, hold tightly on to your wallet and extricate yourself from the situation.   To not study history is to invite misfortune to haunt what you do.

7. “Be patient and wait for the fat pitch.” Montier has quoted Winnie the Pooh on this point: “Never underestimate the value of doing nothing.”  The “fat pitch” is a bet which presents a small downside and a big upside with the odds being substantially in your favor. When you encounter such a bet, bet big. It’s that simple.  The number of times you will encounter a fat pitch is small so you will need to be patent, spending most of your time doing nothing. Too many investors suffer from “action bias” says Montier.

8.  “Be contrarian.” To achieve results which are better than the market you must by definition make a bet occasionally that is contrary to the view of the crowd, and you must be right about that bet.  This must be true since the crowd is the market.  This is not easy since “humans are prone to herd.”  To be “greedy when others are fearful and fearful when others are greedy” means being occasionally contrarian, which is not a natural state for most people.

9. “Risk is the permanent loss of capital, never a number.” You can’t quantify the unquantifiable  For example, the Value-at-Risk concept says Montier “cuts off the very part of the probability distribution (the extremes) that you most need to worry about.” He adds:  “Regulators adopting Value-at-Risk is a little bit like asking children to mark their own homework.”


10. “Be leery of leverage.”  As Charlie Munger has said: “I’ve seen more people fail because of liquor and leverage – leverage being borrowed money.” Montier adds: “Leverage can’t ever turn a bad investment good, but it can turn a good investment bad.  When you are leveraged you can run into volatility that impairs your ability to stay in an investment which can result in “a permanent loss of capital.”

11. “Never invest in something you don’t understand.” My views on circle of competence are here:  Montier adds: “If something is too good to be true, it probably is.” Both the complexity and non-transparency of any investment are not an investor’s friend.    

12. “One of the most useful things I’ve learned over the years is to remember that if you don’t know what is going to happen, don’t structure your portfolio as though you do!”

A Dozen Sentences Explaining what I’ve Learned from Warren Buffett about Investing

The task I gave myself in this blog post was to distill Warren Buffett’s investing wisdom into my “Dozen Things” format but do so in only twelve sentences (instead of the usual 999 word limit).  I tried to make each sentence build on the previous sentence(s).  One could write a book about how Warren Buffett (there are many), but reducing it to an essential core is also valuable.  I wrote this list from memory without looking at source material to make it more authentic (yes, I liberally borrow from his word choices as I do when speaking).

1.  Mr. Market is valuable for his pocketbook, not his wisdom.

2.  Macroeconomic forecasts are as useful to investors as the comic section of a newspaper.

3.  A share of stock is partial ownership in a business.

4.  The best way to profit from the inevitable cycle of Mr. Market from fear to greed is to focus on the intrinsic value of a given company (trying to “time” crowd behavior based on macroeconomic data is a sucker’s game).

5.  People who have actually been involved in a real business (especially as an entrepreneur) are better equipped to determine the intrinsic value of the partial stake in another business that a share of stock represents.

6.  Risk is the possibility of risk or injury and is not a computable number (for example, a number purportedly representing risk calculated based in volatility is rubbish).

7.  Buying investments at a discount gives you a “margin of safety” helpful when you inevitably make mistakes.

8.  You are less likely to make mistakes if you act in areas in which you are competent.

9.   Unless a company has barriers to entry (a “moat”), supply created by competitors will rise to a point where lower prices will eliminate economic profit.

10. Wall Street and other promoters will sell investors anything they will buy (quality control is not a factor).

11. Excitement and expenses are the enemy of the investor.

12. Buy low fee index funds, unless you are willing to work hard/read constantly and are rational rather than emotional.


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