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My Notes on Howard Marks’s Latest Memo: Few Losers, or More Winners?

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Howard Marks yesterday released his latest memo to clients of Oaktree Capital.

It is titled “Few Losers, or More Winners?”

It’s an insightful take on how a proper choice between the two approaches of investing – one with the aim to minimise losses, and the other to maximise gains – is the path to achieve good investment results over the long run.

I have prepared some notes on the memo. Click here to read my notes.


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Stay safe.

With respect,
– Vishal

What to Do When There’s No Stock to Buy?

The Sketchbook of Wisdom: Now Available at a Special Discount

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Investing is difficult.

But not investing – sitting with cash and not finding stocks worth buying – is more painful.

After all, to most of us, activity equals achievement.

The need to remain active at all times is what leads CEOs to make bad capital allocation decisions, especially during heady times. And that is what leads most investors – big or small – to buy overpriced stocks.

We all want to be in the thick of action – largely because we hate the feeling of missing out on the party.

But then, as Charlie Munger says…

It takes character to sit there with all that cash and do nothing. I didn’t get to where I am by going after mediocre opportunities.

What to Do When There’s Nothing to Buy?
This is one of the most common questions I am being asked these days.

“I am not finding value in the stock market anymore,” asked a friend. “What should I do now?”

“Accumulate cash,” I replied.

“But that’s tough.” he said.

“Why?” I asked.

“Because cash in bank is a wasted opportunity,” he replied. “And why should I hold cash when it is paying nothing while stocks can grow my money much faster?”

Over the years and after learning my lessons (from not holding cash) the hard way, I’ve found several reasons to ‘hold cash’ when I have nothing to buy. Here are the biggest two –

  1. When cash is paying nothing and stocks have a greater probability of losing, nothing beats losing.
  2. If I don’t have cash, it is almost impossible for me to take advantage of opportunities that may present themselves in the future.

Accepting these reasons has made me fearless of holding/accumulating cash when I do not find (much) value in the stock market.

Of course, this is not with the intent to time the market – which is impossible. The intent is to avoid acting when I find no reasons to act.

As Seth Klarman wrote in his wonderful paper titled The Painful Decision to Hold Cash, the idea is to –

…remain liquid, defy the steady drumbeat of performance pressures, and wait for the prices of at least some securities to drop. (One doesn’t need the entire market to become inexpensive to put significant money to work, just a limited number of securities.)

But then, as Klarman also wrote –

Human beings are only endowed with so much patience, after all. Few are able to look past near-term returns, and today anything appears to offer better returns than cash.

Also, given their relative-performance-oriented, competitive nature, investors loathe the possibility of underperformance that comes from sitting on the sidelines; they find it better to be in the game (unless, of course, the market drops). Most significantly, they remain highly skewed toward the greed end (how much can you make?) and away from the fear end (how much can you lose?) of the spectrum of investor emotions. In short, investors remain the consummate yield gluttons, seeking high return without regard for the likelihood of actually achieving it or for the risk incurred in the process.

You see, investing doesn’t always mean “buying something”.

In fact, as Warren Buffett said –

Much success can be attributed to inactivity. Most investors cannot resist the temptation to constantly buy and sell.

Here is an insight from Prof. Sanjay Bakshi whom I asked this question few years back –

There is no “nothing to buy” situation. If you ignore transaction costs and taxes, you are in-effect, selling every stock you want to hold, and buying it back at market price everyday. Remaining invested in a position is the functional equivalent of selling it for cash and deploying that cash in the position at its prevailing market price.

I think you mean “nothing new to buy.” But if you think about that carefully, there is a disconnect. If you are, in effect, “buying” your existing positions every day, then when you say there is nothing “new “to buy, aren’t you also, in effect saying that you prefer to own what you do but don’t want to deploy new cash in those very positions? Now there may be good reasons for not deploying new cash in old positions but the reason cannot be that your old positions are overvalued, for if they are overvalued, then why are you, in effect, buying them today?

Two good reasons to not deploy new cash in old positions could be: (1) need to diversify; (2) setting aside capital in expectation of a new, lucrative opportunity arriving in due course in which you prefer to hold cash (Mr. Buffett uses this “carrying-a-loaded-gun-waiting-for-the-right-elephant-to-appear” approach).

If there is nothing new to buy, by doing nothing, you’re still buying cash. Cash has huge option value, but delivers negative real rates of return. Sometimes, in life, when all choices are bad, you simply choose the least worse choice.

What else could you do? Holding cash which earns a small negative return may not be a great choice, but it’s better than holding other assets which can greatly depreciate in value.

Another advice when investors face such difficult choices is this: Lower Your Expectations.

Finally, here is what Vinod Sethi, the ex-MD and CIO of Morgan Stanley India advised in the second episode of The One Percent Show –

People have this natural urge that if I have spent 100 hours doing something, then I must act. Whereas my view is that act when prices are going to go up or down, not when you have completed your homework. The market is not waiting for you to complete your homework for the prices to go up or down. I would always urge a lot of my analysts, including myself, to delink analysis from decision-making. Because you have spent a hundred hours on something, you don’t need to act.

The key to being a good money manager is to not act, or not link your hard work to your action. Delink the two. Keep working, because the point of conviction and intuition comes when it comes. But at that time, your homework should be complete. That time you shouldn’t be running around doing homework, because that intuition point will happen when it happens. It is all sitting in your brain. But you act when your intuition wakes up. In a way, the market whispers in your ear.

At the end of the day, I’d say that’s what it is. Because there are 10,000 listed stocks and why would you zone in on something? You need to do a lot of work, but don’t believe or don’t live under the delusion that your work has got you this brilliant idea.

The work has given you the foundation for good seeds to grow. It’s like a garden, which has been well fertilized and watered for some roses to bloom. That’s your research on a daily basis. But the act of the rose coming is when there is a confluence of events, like when a stock is dirt cheap or forgotten or expensive. There’s the real world out there and you’re ready with your homework.

Let’s put it this way. It is like there’s a woolly mammoth coming at you and I give you a gun with a few bullets. There are two ways you can respond. I’ve given you a gun with bullets, so you can start firing. The other way to look at it is to just sit and fire when the woolly mammoth shows up. So, research is like loading the gun, having the bullets. The opportunity is the mammoth showing up. They’re not linked. Having a gun gives you the arrogance that I will fire and can hit the mammoth. That is a classic mistake of most analysts.

In short, keep doing your work of identifying great investment opportunities, but if the prices are not right, and there is no margin of safety, don’t act. Least of it, don’t act just because you have done the hard work. Stocks do not bother about your hard work.

But when the time is right, and you are ready, as Vinod said, the market will whisper in your ear.

Act then.


That’s about it from me for today.

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Thank you for your time.

Regards,
Vishal


The Sketchbook of Wisdom: Now Available at a Special Discount

Buy your copy of the book Morgan Housel calls “a masterpiece.” It contains 50 timeless ideas – from Lord Krishna to Charlie Munger, Socrates to Warren Buffett, and Steve Jobs to Naval Ravikant – as they apply to our lives today. Click here to buy now and claim a special dicount, which is available only till 15th September 2023.

Why Most of Us Are Bad at Investing

The Sketchbook of Wisdom: Now Available at a Special Discount

Buy your copy of the book Morgan Housel calls “a masterpiece.” It contains 50 timeless ideas – from Lord Krishna to Charlie Munger, Socrates to Warren Buffett, and Steve Jobs to Naval Ravikant – as they apply to our lives today. Click here to buy now and claim a special dicount, which is available only till 15th September 2023.


…because most of us in the stock market, most of the time, do not do investing, which is…

  • Thinking how markets work,
  • Understanding how other investors behave and why not to behave like most of them,
  • Studying businesses,
  • Sticking only with what is simple and what we understand,
  • Buying stocks at appropriate valuations,
  • Owning those businesses knowing they are ‘businesses’ and not just symbols on your screen, and
  • Being patient with those businesses and holding on till they remain good businesses.

Instead, we are busy…

  • Envying (others making money fast or losing money slow),
  • Cloning (others’ stock ideas mindlessly),
  • Predicting (future of markets, stock prices, and economy),
  • Fearing (missing out on future gains),
  • Regretting (past mistakes),
  • Avoiding (accepting current mistakes),
  • Denying (reality, especially when it’s harsh), and
  • Indulging (in useless information and noise)

And if that’s not all, these often lead us to –

  • Trading (frequently, which adds to our costs),
  • Averaging down (on bad businesses),
  • Boasting (about our lucky short-term gains), and sometimes
  • Trolling (other investors on social media, who have not performed as well as us in the recent past).

With such a busy schedule, where is the time to practice investing?

Countless wise people have advised us for centuries that to become good at anything, we do not need to always add more things but give up on some of them.

However, when it comes to investing, giving up on everything mentioned above is not as easy as it sounds. All these (mis)attributes and (mis)behaviours make us human (except trolling others), and thus there is no point trying hard to eliminate all of them from our lives at one go.

But if we work towards minimizing these – some starting today, and others over a period of time – we may end up with an outcome better than we had ever imagined.

I would leave you with a couple of quotes, which signify how what we think and do now, help us create our destinies –

Watch your thoughts; they become words.
Watch your words; they become actions.
Watch your actions; they become habits.
Watch your habits; they become character.
Watch your character; for it becomes your destiny.

– Lao Tzu

You are what your deep, driving desire is.
As your desire is, so is your will.
As your will is, so is your deed.
As your deed, is so is your destiny.

– Brihadaranyaka Upanishad

For good or bad, investing does not follow any other path.

A Teacher’s Three Secrets to Living A Good Life

The Sketchbook of Wisdom: Now Available at a Special Discount

Buy your copy of the book Morgan Housel calls “a masterpiece.” It contains 50 timeless ideas – from Lord Krishna to Charlie Munger, Socrates to Warren Buffett, and Steve Jobs to Naval Ravikant – as they apply to our lives today. Click here to buy now and claim a special dicount, which is available only till 15th September 2023.


We know Ben Graham as the father of value investing and the first real teacher of the subject. His book, The Intelligent Investor, has changed the lives of many, particularly Warren Buffett’s, who was one of Graham’s students at Columbia Business School.

Graham played a significant role in shaping Buffett’s career and investment philosophy. But as Buffett has mentioned at several occasions, Graham’s influence on him extended well beyond lessons on analyzing financial statements.

In a short article in the Financial Analysts Journal, remembering Graham after his death in 1976, Buffett emphasized what he learned from the three things Graham said he hoped — even at the age of 80 — to do every day. He wrote –

Several years ago Ben Graham, then almost 80, expressed to a friend the thought that he hoped to do every day “something foolish, something creative and something generous.”

Let’s talk about each of these.

The word “foolish” often carries a negative connotation, but the implied meaning here has more to do with humility and a willingness to forgo self-importance than anything else. Like this is what Buffett wrote to shareholders in his 1989 letter –

Charlie and I have both total job security and financial interests that are identical with those of our shareholders. We are willing to ‘look’ foolish as long as we don’t feel we have ‘acted’ foolishly.

And this is what he wrote in his 2017 letter –

Though markets are generally rational, they occasionally do crazy things. Seizing the opportunities then offered does not require great intelligence, a degree in economics or a familiarity with Wall Street jargon such as alpha and beta. What investors then need instead is an ability to both disregard mob fears or enthusiasms and to focus on a few simple fundamentals.

A willingness to look unimaginative for a sustained period – or even to look foolish – is also essential.

On the aspect of “creativity,” Buffett wrote this about Graham –

A remarkable aspect of Ben’s dominance of his professional field was that he achieved it without that narrowness of mental activity that concentrates all effort on a single end. It was, rather, the incidental by-product of an intellect whose breadth almost exceeded definition.

That’s the thing about creativity – the willingness and the ability to get over the narrowness of your mind and perceive the world in new ways, to find hidden patterns, to make connections between seemingly unrelated phenomena, and to generate solutions.

Maria Popova of Brainpickings defines creativity this way –

Creativity is a combinatorial force: it’s our ability to tap into our ‘inner’ pool of resources – knowledge, insight, information, inspiration and all the fragments populating our minds – that we’ve accumulated over the years just by being present and alive and awake to the world and to combine them in extraordinary new ways.

Coming to the third aspect of “generosity” that Graham aimed to practice in his daily life, Buffett has often told us –

I benefited enormously from the intellectual generosity of Ben Graham, the greatest teacher in the history of finance.

And here is what he wrote in his 1976 remembrance –

…his third imperative – generosity – was where he succeeded beyond all others. I knew Ben as my teacher, my employer and my friend. In each relationship – just as with all his students, employees and friends – there was an absolutely open-ended, no-scores-kept generosity of ideas, time and spirit. If clarity of thinking was required, there was no better place to go.

And if encouragement or counsel was needed, Ben was there. Walter Lippmann spoke of men who plant trees that other men will sit under. Ben Graham was such a man.

Even leaving aside his generous contributions to the world of investing, Graham was an extraordinary man who left the world with invaluable lessons.

This one especially – of daily being foolish, creative, and generous – can certainly help us lead wonderful lives.


Wishing you all a very happy Teachers’ Day. In whatever way you may be playing the role of a teacher – parent, child, friend, colleague, teacher, or even as a student – I thank you for bringing light into dark corners.

More power to you.

Regards, Vishal

[Notes] Skin in The Game by Nassim Taleb

The problem with Taleb is not that he’s an a**hole. He as an a**hole. The problem with Taleb is that he is right.

Those are not my words. It’s from one of the blurbs for Taleb’s book Skin in The Game. And among many other surprising things about the book, one is that all the blurbs that appear on the jacket aren’t from other famous authors. Taleb took the testimonials from ordinary readers and printed it on the back of the book. Not because other famous authors weren’t willing to offer their testimonials — many of them would be honoured to do that — but it’s because Taleb doesn’t care.

Those who have read his books agree on one thing — Taleb is idiosyncratic and he is a genius.

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Move Forward, But with Caution: Lessons on How to Deal with Bull Markets

Recent advances in neuroscience and physiology have shown that when we take risk, including financial risk, we do a lot more than just think about it.

We prepare for it physically. Our bodies, expecting action, switch on an emergency network of physiological circuitry, and the resulting surge in electrical and chemical activity feeds back on the brain, affecting the way it thinks. In this way, the body and the brain string together as a single entity, united in the face of challenge.

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It’s Not Supposed to Be Fair

In 1999 when Warren Buffett bought a 75% stake in MidAmerican Energy Holdings Company, David Sokol was its CEO. He retained his position till 2008. Apart from managing MidAmerican, Sokol played a crucial role in turning around Berkshire’s other investments like NetJets and Johns Manville. Over the years he established a reputation inside Berkshire Hathaway as Mr. Fixit.

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The World’s Best Investing Checklist

Peter Kaufman has done an amazing job compiling some of the world’s best lessons on investment behaviour into a masterpiece. We know it as Poor Charlie’s Almanack, which is a collection of speeches and talks by Charlie Munger.

While the entire book is one amazing journey through the mind of one the greatest investment and behavioural thinkers of our times, one part that takes the cake is where Kaufman has condensed Munger’s teachings into a checklist.

He calls this “Investing Principles Checklist”, as it contains the core principles that has made Munger the brilliant investor he is today.

These principles can further be condensed into four most basic guiding principles of life and investing – Preparation. Discipline. Patience. Decisiveness.

These principles cannot be prioritized in terms of any importance. Rather, together, they make up a sensible, thinking, and disciplined investor’s mental toolkit.

Munger’s Investing Principles Checklist
1. Risk – All investment evaluations should begin by measuring risk, especially reputational.

  • Incorporate an appropriate margin of safety
  • Avoid dealing with people of questionable character
  • Insist upon proper compensation for risk assumed
  • Always beware of inflation and interest rate exposures
  • Avoid big mistakes; shun permanent capital loss

2. Independence – “Only in fairy tales are emperors told they are naked.”

  • Objectivity and rationality require independence of thought
  • Remember that just because other people agree or disagree with you doesn’t make you right or wrong – the only thing that matters is the correctness of your analysis and judgment
  • Mimicking the herd invites regression to the mean (merely average performance)

3. Preparation – “The only way to win is to work, work, work, work, and hope to have a few insights.”

  • Develop into a lifelong self-learner through voracious reading; cultivate curiosity and strive to become a little wiser every day
  • More important than the will to win is the will to prepare
  • Develop fluency in mental models from the major academic disciplines
  • If you want to get smart, the question you have to keep asking is “why, why, why?”

4. Intellectual humility – Acknowledging what you don’t know is the dawning of wisdom.

  • Stay within a well-defined circle of competence
  • Identify and reconcile disconfirming evidence
  • Resist the craving for false precision, false certainties, etc.
  • Above all, never fool yourself, and remember that you are the easiest person to fool
  • “Understanding both the power of compound interest and the difficulty of getting it is the heart and soul of understanding a lot of things.”

5. Analytic rigor – Use of the scientific method and effective checklists minimizes errors and omissions.

  • Determine value apart from price; progress apart from activity; wealth apart from size
  • It is better to remember the obvious than to grasp the esoteric
  • Be a business analyst, not a market, macroeconomic, or security analyst
  • Consider totality of risk and effect; look always at potential second order and higher level impacts
  • Think forwards and backwards – Invert, always invert

6. Allocation – Proper allocation of capital is an investor’s number one job.

  • Remember that highest and best use is always measured by the next best use (opportunity cost)
  • Good ideas are rare – when the odds are greatly in your favor, bet (allocate) heavily
  • Don’t “fall in love” with an investment – be situation-dependent and opportunity-driven

7. Patience – Resist the natural human bias to act.

  • “Compound interest is the eighth wonder of the world” (Einstein); never interrupt it unnecessarily
  • Avoid unnecessary transactional taxes and frictional costs; never take action for its own sake
  • Be alert for the arrival of luck
  • Enjoy the process along with the proceeds, because the process is where you live

8. Decisiveness – When proper circumstances present themselves, act with decisiveness and conviction.

  • Be fearful when others are greedy, and greedy when others are fearful
  • Opportunity doesn’t come often, so seize it when it comes
  • Opportunity meeting the prepared mind; that’s the game

9. Change – Live with change and accept unremovable complexity.

  • Recognize and adapt to the true nature of the world around you; don’t expect it to adapt to you
  • Continually challenge and willingly amend your “best-loved ideas”
  • Recognize reality even when you don’t like it – especially when you don’t like it

10. Focus – Keep things simple and remember what you set out to do.

  • Remember that reputation and integrity are your most valuable assets – and can be lost in a heartbeat
  • Guard against the effects of hubris (arrogance) and boredom
  • Don’t overlook the obvious by drowning in minutiae (the small details)
  • Be careful to exclude unneeded information or slop: “A small leak can sink a great ship”
  • Face your big troubles; don’t sweep them under the rug

In the end, it comes down to Munger’s most basic guiding principles, his fundamental philosophy of life: Preparation. Discipline. Patience. Decisiveness.

A Father’s Lessons for Life and College

My dearest Kavya,

As I sit down to write this letter, tears well up in my eyes, and my heart swells with a mix of pride and sadness.

I am still not able to believe that you were in kindergarten just a minute ago (or so it seems), and leaving home today to spread your wings and embark on this incredible journey called ‘college.’

You are all grown up, and though it’s hard to let go, I know that this is just the beginning of an extraordinary chapter in your life.

[Read more…] about A Father’s Lessons for Life and College

The Art of Making Good Decisions

Who wakes up every morning thinking, “I am going to make bad decisions today”?

No one.

Yet we all make poor decisions, more often than we want to. Surprisingly that’s not the biggest irony.

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