Trade comes to us innately. We buy, sell and trade online, visit flea markets or scout for bargains on a big purchase. When vacation planning, we do research and try to find good deals on flight and accommodation. If we need a new car or refrigerator, we may read reviews and try to find good value for money. Yet when it comes to the stock market, individuals don’t have the same bang-for-buck or bargain hunting mentality.
Awaken The Gambler Within
Whether by dice or cards, the history of gambling has been traced back to Ancient Greece, China, and Egypt. The debate on its morality will go on forever. Its prohibition will lead to illegal dens, and governments cannot resist creating a monopoly on this money printer in the name of the “common good”.
I remember an old advertisement on TV from back in the day. In it, the slogan went something along the lines of: “What happens to us smart people in traffic?”. The ad was trying to draw attention to road rage, and how seemingly rational people become irrational once they sit behind the wheel.
As inspiration from this ad, a good line of thought would be: “What happens to us smart people in markets?”. People with nothing wrong in their intelligence get into a gambler’s mindset when it comes to stocks. They buy into securities with a lot of hype around them, that have only been rising, relying on the greater fool theory.
“Surely, someone else is willing to buy from me at a higher price than I did?”
“It’s only been going up in the past.”
“This company has a great story!”
“The CEO is a visionary”
I’m not saying you can’t make money this way. All of the above statements may be true. But ask yourself: “Who doesn’t know this, and how is it not reflected in its current price?” Most of the time the above is gambling, not investing. As we know, the rear window is much cleaner than the windshield.
The Yin Yang of Liquidity
One main trigger of this gambler mindset in the stock market is liquidity. When prices are quoted every second, and the news is littered with stocks reaching new highs, most people find it hard to resist the temptation to “try their luck”. It’s almost as if the market is telling you to do something, to act. It’s been made slothfully easy to participate. Though this democratization is a very good advancement in general, its drawbacks are the aforementioned blights.
Liquidity is a benefit to individual investors, if they refuse the gambler’s mindset. Institutions who buy millions of stock need weeks to load or unload a position. Retail investors can enter and exit as they please, which gives them a huge advantage, but only if they understand what they own and know its intrinsic value. Another problem with liquidity is that it shortens investor timeframes. Everyone claims to be a “long-term investor”, but market behavior clearly suggests otherwise.
Based on the picture above, what do you think market participants timeframes are? Are they long-term investors? Or people being driven by cycles of short-term fear and greed? Liquidity and market psychology are the greatest advantages to the intelligent investor, yet so many turn these trump cards into handicaps. In the real world, a company’s true intrinsic value does not make dramatic shifts in a timespan of mere months.
Speed and Algorithms
High speed trading activity, algorithms, A.I. and other fancy computer science has not made investing more intelligent. Quite the opposite. Geeks and the institutions that employ them do not have any meaningful advantage over you, as long as you can remain patient, rational and price-disciplined. But it is in their interest to keep you in the dark, to have you paying transaction fees, while delivering sub-par results. Do you believe your pensions are held by stewards who are incentivized to act with patience, rationality and price-discipline? If you don’t want to buy individual companies, just set your money in a low-cost index fund. And resist the gambler in you.
“If you’re not willing to react with equanimity [emotional stability] to a market price decline of 50% two or three times a century you’re not fit to be a common shareholder and you deserve the mediocre result you’re going to get compared to the people who do have the temperament, who can be more philosophical about these market fluctuations.” – Charlie Munger.
Become a Market Hermit
The solution is to become a market “hermit”. Though the word has a negative connotation, it’s everything else when it comes to stocks. You’ll have to forfeit the social satisfaction that may come from owning the latest market craze, but it’s a price worth paying. Alas, human beings are social creatures, and resisting our nature is very hard for most people. Buffett has once said that value investing is like an inoculation. You can explain it to people, show how it works, why it works and the returns it generates. Either they get it or they don’t. The old “you can lead a horse to water…” adage is at work.
The stock market will expose the true degree of your mind’s independence. This heightened individuality requires an indifferent mindset to what others think. This doesn’t mean you’re an unemotional or uncaring person. You just channel your emotional side into other things.
-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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