One of the best papers ever written on investing is The Wisdom of Great Investors, provided by Davis Advisors.
Davis Advisors was founded by legendary investor Shelby Cullom Davis, a leading financial advisor to governors and presidents, who parlayed an initial investment of $100,000 in the late 1940s into more than $800 million by the end of his career in the early 1990s. In 1969, Shelby Cullom Davis’s son, Shelby M.C. Davis, founded Davis Advisors after serving as the head of equity research at The Bank of New York.
Shelby Cullom Davis famously said:
“You make most of your money in a bear market, you just don’t realize it at the time.”
This timeless paper is a great reminder that wherever we are in the history of investing it is crucial that we don’t forget the painful lessons from investors of the past. Here are the most important take-aways from the paper:
It is important to understand that periods of market uncertainty can create wealth-building opportunities for the patient, diligent, long-term investor. Taking advantage of these opportunities, however, requires the willingness to embrace and incorporate the wisdom and insight offered in these pages. History has taught us that investors who have adopted this mindset have met with great success.
Understand That Crises are Inevitable
Crises are painful and difficult, but they are also an inevitable part of any long-term investor’s journey. Investors who bear this in mind may be less likely to react emotionally, more likely to stay the course and be better positioned to benefit from the long-term growth potential of stocks.
Recognize That Historically, Periods of Low Returns for Stocks Have Been Followed by Periods of Higher Returns
Low prices have helped increase future returns. Investors who bear this in mind are more likely to endure hard times and be there to benefit from the subsequent periods of recovery.
Don’t Attempt to Time the Market
Investors who understand that timing the market is a loser’s game will be less prone to reacting to short-term extremes in the market and more likely to adhere to their long-term investment plan.
Don’t Let Emotions Guide Your Investment Decisions
Great investors throughout history have recognized the value of making decisions that may not feel good at the time but that may potentially bear fruit over the long term—such as investing in areas of the market that investors are avoiding and avoiding areas of the market that investors are embracing.
Understand That Short-Term Under-performance is Inevitable
Almost all great investment managers go through periods of underperformance. Build this expectation into your hiring decisions and also remember it when contemplating a manager change.
Disregard Short-Term Forecasts and Predictions
Don’t make decisions based on variables that are impossible to predict or control over the short term. Instead, focus your energy toward creating a diversified portfolio, developing a proper time horizon and setting realistic return
While the paper provides a number of great charts and infographics, one in particular illustrates the importance of avoiding self destructive behavior:
Avoid Self-Destructive Investor Behavior
Emotions can wreak havoc on an investor’s ability to build long-term wealth. This phenomenon is illustrated in the study below. Over the period from 1994 to 2013, the average stock fund returned 8.7% annually, while the average stock fund investor earned only 5.0%. Why did investors sacrifice close to half of their potential return? Driven by emotions like fear and greed, they engaged in such negative behaviors as chasing the hot manager or asset class, avoiding areas of the market that were out of favor, attempting to time the market, or otherwise abandoning their investment plan.
Great investors throughout history have understood that building longterm wealth requires the ability to control one’s emotions and avoid self-destructive investor behavior.
You can find the entire paper here.