Buying a stock is inherently an arrogant act. The act of buying shows your belief that the stock will go up. With every buyer, there’s a seller. The seller wouldn’t sell if they believed the stock would go up. As a buyer, what do you know that the seller doesn’t?
A Buffé of Reasons
Today, stocks are more liquid than ever, and billions of shares are traded every day. All market participants have their reasons for buying or selling. Every participant believes they will be better off post-transaction, unless they are forced sellers or buyers. To give examples, forced buying can occur if a company gets added to an index, and institutional investors have to pile in. Forced selling can occur from things such as spin-offs or removal from an index. The individual investor has an enormous advantage over institutions if they can separate themselves from their game.
Checkers and Chess
As an individual investor, you shouldn’t even try to play with the institutions. Their interests and yours are not aligned.
- You don’t have to swing if there are no opportunities. They have to.
- You have a long time horizon. They don’t.
- You don’t have to stray outside your circle of competence. They have to.
- They are constrained by institutional policy. You aren’t.
- They are not nimble. You are.
- They think risk is quantifiable. You know it isn’t.
- They are the herd. You’re not.
There is a danger in having early successes. It puts your mind into thinking it’s easy.
Arrogance is Easier Than Humility
Some say there’s a fine line between arrogance and confidence. It’s quite natural to feel confident when you succeed. In many ways, a successful outcome is natures way of giving you feedback. But it’s not that simple in investing. Most market participants buy stocks with absolutely no consideration to underlying business value. This is quite evident when you look at current prices on most darlings. If they buy and it goes up, they think they’re smart and “knew it would go up”. In most cases, there has just been more buyers who also think they know a stock will continue to move up. Sometimes the cause of rising prices is rising prices itself. If the price declines, they think they’ve made a mistake. A rising or sinking price alone does not tell if you’re right or wrong.
Humility The Right Way
When you buy, you need to recognise it’s an arrogant act. Self-awareness is key, also in investing. But don’t be discouraged by the negative connotation of the word “arrogant”. If you wouldn’t have confidence in the firm, you would not buy. Sometimes an opportunity may seem ridiculously attractive, and it can be hard to remain humble in front of something seemingly so “obvious”.
Moments like these is when humility is most needed. Resist the temptation to tell people about your “screaming buy”. The reason is simple. If you’re wrong, you’ll feel humiliated not because you were wrong, but because you were so eagerly touting something and have to admit your mistake. It will have an effect on your confidence. In the worst case, it can discourage you from pursuing intelligent investing all together. You may start doubting yourself and your abilities. But remember, even the greatest investors make mistakes. It’s completely normal and should be expected at some point, though you should aim to minimise them to the fullest.
When Do You (Truly) Know You’re Right?
Charlie Munger stated in a 2018 interview with Chinese journalists, that prices tend to move towards value in the end. When you have the time horizon of many, many years, you don’t have to worry about short-term price movements. You know you’re a business owner, and are interested in the business facts, not market opinions. There are many common investing mistakes, but in my personal opinion, the biggest mistake is usually made in the price you pay. You may step out of your circle of competence, you may have wrongly evaluated management. But if you pay a low price in all your investments over the long-term, you should end up alright. Remember, it’s all about avoiding permanent loss of capital. If a stock drops by 20% weeks after you buy it, and there is no fundamental change in the company, you’ll only have a permanent loss if you sell in fear. That said, you should never invest money you’re going to need within a few years anyway.
Most market participants do not think of themselves as owning a part of a business, but rather, a digital number that just flashes daily on the screen. It’s as if these price movements are telling you to do something, when most of the time, inaction is the best MO. And just as excitement, fear is incredibly contagious. Most market participants do not have the temperament to buy low. When prices are low, worry is high. When prices are high, worry is low. In the words of Sir John Templeton:
“To buy when others are despondently selling and to sell when others are avidly buying requires the greatest fortitude and pays the greatest reward”
To truly know you’re right is when the business develops the way you evaluated it would, and paid less than its worth. You may be right on the business development part, but if you overpaid, there’s no return. What a tragedy.
Conclusion: You’re Your Worst Enemy
Some years ago I was looking at a quantitatively cheap company. It had good cash flows, healthy margins and little debt. This was a construction engineering company focusing on nuclear power plants. I read through the annual reports, trying to increase my knowledge on the industry. I thought about it for weeks, and then it dawned on me. If I can’t understand it quickly, it’s not in my circle of competence. I had to be honest with myself. What do I know about construction engineering? Let alone in nuclear power plants? I moved on to other things. Out of curiosity, I checked on the company a year or so later. The price had doubled.
Was this a mistake? I don’t consider it one. It’s hard enough to find opportunities in things I do understand. Why should I expect to make money in things I don’t?
Successful investing is not a game of wits. Knowing yourself is what matters.
-IGTSKasimir
Further Reading
Warren Buffett – The Partnership Days (1956 – 1969)
Philip A. Fisher – Lessons From The 15% Man
The Best of Ben Graham – Security Analysis
Phil Town – The Compounding River Guide
Margin of Safety – The Most Important Thing
Intelligent Investing = Thinking In Probabilities
The Emotional Stages of a Value Investor
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