Value of patience
You asked about the value of patience. Reminds me of what Buffett once wrote: “You can’t produce a baby in one month by getting nine women pregnant.”
In the same way, you cannot get good results by focusing on the short term.
Value investing is really not meant for people who don’t have patience. There are other kinds of investing – momentum investing is one, and high frequency trading is a variant of that. There are lot of ways in which people make money in the stock market. Value investing is just one of them but to become a successful value investor, you have to have patience. You may not need patience if you are a momentum investor, but you do need extreme amount of patience if you want to be a successful value investor.
You just have to see how people have got rich in stocks. If you look at genuinely successful people in the stock market, you will find that an over-whelming majority of them bought stocks of good companies at attractive prices and just sat on them for a long-long time.
I give this example in the classroom. I put up two situations and you are a super-smart stock picker in each of them. Imagine that you can double your money every year. So, in the first situation – let’s call it “market timing strategy” – you buy a stock at the beginning of a year, and pay a transaction cost of say 0.5% (which includes securities transaction tax or STT, and brokerage etc.), you hold it for a year, when it doubles, and at the end of year 1, you sell it. You pay a tax of 10%, and then reinvest the remaining cash in another stock, paying the transaction costs for the third time (earlier you paid it when you bought at the start of the first year and then when you sold it at the end of that year).
By the end of year 2, the stock doubles again. You sell it, and invest the post tax, post transaction costs proceeds in another stock, which again doubles by the end of year 3. This process continues for 30 long years. The excel model shows that you would have turned that one rupee into Rs 17 cr. Not bad at all.
Now compare that, with another strategy – let’s call it “buy and hold strategy” – in which you invest one rupee in a stock, which doubles every year for 30 years, and then you sell it, pay the transaction costs and taxes at the same rate. In this situation, you end up with Rs 95 cr.
The staggering difference between the results of the buy-and-hold investor and those of the market timer cannot be attributed to superior stock picking skills, because they were the same in both situations. So, what explains the difference? Well, the answer is transaction costs and deferred taxes- both derived from a single virtue: patience.
In fact,you can use the same example, and work backwards to figure out how much well the stock picked by the buy-and-hold investor needs to do to equate its return with that of the stocks bought and sold by the market timer, and students find out substantially poorer stock-picking skills in a buy-and-hold strategy equates superior stock-picking skills in a market timing strategy.
But many investors don’t get it. They don’t look at the numbers the way they should. And one big reason is because they think, “Oh, it’s just 0.5% transaction charge. It doesn’t mean much, it’s so very small.” But the truth is that tiny changes, over long periods, add up to a lot…
Power of multi-disciplinary thinking
Munger’s idea of mental models is very powerful. He doesn’t limit himself to thinking in terms of models from only psychology. His models come from various disciplines. He talks about multi-disciplinary thinking.
The business of investing is a highly competitive business, so you must find an edge.
Moats can help you define what is called a “circle of competence”. Most investors do better if they limit their investing to an area they know well-financial-services firms, for example, or tech stocks-rather than trying to cast too broad a net.
Instead of becoming an expert in a set of industries, why not become an expert in firms with competitive advantages, regardless of what business they are in? You’ll limit a vast and unworkable investment universe to a smaller one composed of high-quality firms that you can understand well.
Risk and Uncertainty
Risk is simply the probability of “permanent loss of capital” and that has nothing to do with the volatility of the asset’s earnings or price. Buffett
Uncertainty is the sheer unpredictability of situations when the ranges of outcome are very wide.
RISK, UNCERTAINTY AND IGNORANCE
Escalating challenges to effective investing. The essence of effective investment is to
select assets that will fare well when future states of the world become known.
When the probabilities of future states of assets are known, as the efficient
markets hypothesis posits, wise investing involves solving a sophisticated
optimization problem. Of course, such probabilities are often unknown,
banishing us from the world of the capital asset pricing model (CAPM), and
thrusting us into the world of uncertainty.3
Were the financial world predominantly one of mere uncertainty, the
greatest financial successes would come to those individuals best able to assess
probabilities. That skill, often claimed as the domain of Bayesian decision theory,
would swamp sophisticated optimization as the promoter of substantial returns.
The real world of investing often ratchets the level of non-knowledge into
still another dimension, where even the identity and nature of possible future
states are not known. This is the world of ignorance. In it, there is no way that
one can sensibly assign probabilities to the unknown states of the world. Just as
traditional finance theory hits the wall when it encounters uncertainty, modern
decision theory hits the wall when addressing the world of ignorance. I shall
employ the acronym UU to refer to situations where both the identity of possible
future states of the world as well as their probabilities are unknown and
The opportunity to multiply your money 10 or 100 times as often as you virtually lose all of it is a very attractive opportunity.
Zeckhauser advises that when the opportunity arises to make a “sidecar investment” alongside such people, you shouldn’t miss it.
I think when people think in terms of cost, they don’t think a lot about “opportunity cost.” For most people out-of-pocket costs loom much larger than opportunity costs, and since foregone opportunities are not out-of-pocket costs, people under-weigh them.
Graham had a very simple rule of dealing with value traps.
He basically said, “I’m doing statistical bargains. I don’t know which of these companies are going to perform, but I will limit the underperformers.”
So he kept a very simple rule. He would sell a stock if it went up by 50%, or 3 years, whichever happened first.
That was a very simple rule which largely kept him out of value traps.
But, this kind of a rule applies only to Graham & Dodd statistical bargains.
On the other extreme is the Philip Fisher Rule.
In his book, he writes, “If the job has been correctly done, then the time to sell a stock is almost never.”
Warren Buffett grabbed this rule and he dropped the Graham rule. Of course he did that after he changed his investing style as well.
Think of the following combination:
- A high return on capital with the ability to reinvest that capital at a high rate of return
- Those returns are sustainable because there is a moat – either in the form of a low cost advantage or in the form of a pricing power
- You can continue to grow without requiring new outside capital (so there is not dilution of equity)
- Balance sheet is extremely conservative (no debt and plenty of surplus cash )
- Management that is both skilful – both in operations and in capital allocation – and honest
- The entry price at which you had bought this share is not at the frothy end of the bubble market, and the multiple you had paid for this company is not excessive in relation to its own history.
In other words, follow Gordon Gekko’s modified advice – “Don’t get [too] emotional.”
Typical value investors are loners. They hate crowds. They are independent thinkers who don’t get influenced by what the crowd is doing. They love doing unconventional and unpopular things. They are also extremely patient.
Source : safalniveshak. com
Ten Rules For Being Human
You will receive a body. You may love it or hate it, but it will be yours for the duration of your life on Earth.
You will be presented with lessons. You are enrolled in a full-time informal school called ‘life.’ Each day in this school you will have the opportunity to learn lessons. You may like the lessons or hate them, but you have designed them as part of your curriculum.
There are no mistakes, only lessons. Growth is a process of experimentation, a series of trials, errors, and occasional victories. The failed experiments are as much a part of the process as the experiments that work.
A lesson is repeated until learned. Lessons will be repeated to you in various forms until you have learned them. When you have learned them, you can then go on to the next lesson.
Learning does not end. There is no part of life that does not contain lessons. If you are alive, there are lessons to be learned.
The best way to better understand businesses is to read about them.