Blog on Value Investing | Safal Niveshak

Safal Niveshak Stream – December 17, 2016

Note to Readers: In Stream, we suggest worthwhile reading material on a variety of topics, not all of which are directly related to investing. Some of the articles require you to be paid subscriber of those sites. However, it is often possible to read such articles by going to Google News and searching for the article’s title.

Some nice stuff we are reading, listening, and observing at the start of this weekend…

Investing

(1700 words / 7 minutes read) Could one person’s speculation be another person’s investment? The case study presented in this article titled The Risk of Backing into a Speculative Position illustrates the idea that investment and speculation are linked to an investor’s intent rather than the characteristic of stock he or she is buying.

Let’s assume that the investor and the speculator purchased the exact same security at the same time and then subsequently sold at the same time. Obviously, the returns that both of them will experience are identical, but it is still useful to differentiate between investment and speculation. This is because over long periods of time, process is important and will eventually dominate results. The effect of a good process on any individual investment may not be clear but, over time, a good investment process should generate good long term results.

It is important to make a clear distinction between investing and speculating and to classify one’s activities appropriately. The possibility of major losses exists when someone who believes that he is investing is actually speculating instead. There is nothing illegal or immoral about speculating but such activities really do need to be segregated from investing in our minds to avoid trouble.

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Latticework Of Mental Models: Chauffeur knowledge

Charlie Munger, in one of his talks, tells the story of famous scientist Max Planck –

I frequently tell the apocryphal story about how Max Planck, after he won the Nobel Prize, went around Germany giving a same standard lecture on the new quantum mechanics. Over time, his chauffeur memorized the lecture and said, “Would you mind, Professor Planck, because it’s so boring to stay in our routine, if I gave the lecture in Munich and you just sat in front wearing my chauffeur’s hat?” Planck said, “Why not?” And the chauffeur got up and gave this long lecture on quantum mechanics. After which a physics professor stood up and asked a perfectly ghastly question. The speaker said, “Well, I’m surprised that in an advanced city like Munich I get such an elementary question. I’m going to ask my chauffeur to reply.

Well, the reason I tell that story is not to celebrate the quick wittedness of the protagonist. In this world I think we have two kinds of knowledge: One is Planck knowledge, that of the people who really know. They’ve paid the dues, they have the aptitude. Then we’ve got chauffeur knowledge. They have learned to prattle the talk. They may have a big head of hair. They often have fine timbre in their voices. They make a big impression. But in the end what they’ve got is chauffeur knowledge masquerading as real knowledge. I think I’ve just described practically every politician in the United States. You’re going to have the problem in your life of getting as much responsibility as you can into the people with the Planck knowledge and away from the people who have the chauffeur knowledge.

On a lighter note the chauffeur had some Planck knowledge of his own, being clever enough to turn that question around!

But in the real world, it is critical to distinguish when someone is “Max Planck,” and when he’s just the “Chauffeur.”

Building Planck knowledge takes deep commitment and large amount of time and effort. Chauffeur knowledge comes from people who have learned to put on a show. Their talks sound impressive and entertaining, they have good voice and may even ooze great charisma but their knowledge is not their own.

Investing and the Power of Serendipity

In July 2003 I was fresh out of college and was waiting to join my first job. I was excited but a little anxious too. The thought of transitioning from a laid back college life to a hectic corporate job was giving me jitters.

The life in college was quite predictable. The syllabus was fixed. If I studied the textbooks diligently and attended all the classes, I was supposed to graduate in four years with predictable grades.

But in the job, I had no clue what to expect. I didn’t know how my first boss would behave. Although there weren’t going to be any exams or pop quizzes in the job, there was no set curriculum either. It was a different flavour of uncertainty out there which I hadn’t tasted before.

So, to make the best use of my vacation before the corporate grill started, I thought of meeting someone who was successful in this field. I decided to meet the president of small scale industries association in my hometown.

“Uncle, I am about to join my first job in a chemical industry. What should I do to make the best use of my time in my job?” I asked him.

“Always keep your eyes and ears open. Opportunity can come from any direction. Be ready to grab it and work hard to capitalize on it,” he said. We spoke for about half an hour but these are the only three sentences that I still remember.

At that time, those words didn’t make much sense to me. However, after spending 10 years working in different jobs, I began to realize the importance of uncle’s advice.

Safal Niveshak Stream – December 10, 2016

Some nice stuff we are reading, watching, and observing at the start of this weekend…

Life/Learning

(740 words / 3 minutes read) Perseverance and determination are good qualities when the objective you’re working so hard to achieve is actually attainable. But there is a lot in life you just can’t change, like trying to change the world, so you must quit wasting your time trying…

It’s nice and inspirational and all to think one person could actually change the world, but some things are just bigger than all of us. You can definitely make a difference in the world around you — that’s not a problem. Just watch that you’re keeping your expectations of the impact you can actually have in check.

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Latticework Of Mental Models: Hyperbolic Discounting

Last year I decided to get a brand new laptop for myself. This got me started on the herculean task of selecting from thousands of choices available on numerous e-commerce websites.

After weeks of an excruciating process of comparing, shortlisting, and researching, I finally zeroed in on my final choice. Then started the wait for online discounts.

Very soon, the so-called online-sale-season arrived which offered a ‘whopping’ Rs. 100 discount on my selection. So much for the patience! But for a self-proclaimed prudent consumer, it still was a good deal.

What happened next is pretty much the story of every online shopper. Just when I was about to place the order, I saw the option of same-day delivery for an additional Rs 100. Guess what I did? Yours truly didn’t hesitate for a moment to take the offer.

Ironically, I waited for a week for a small discount but when the time came for buying I couldn’t wait another day and forked out extra money just to get my toy immediately. What happened to my admirable qualities of patience and prudence?

A little research on Google revealed that the introduction of get-it-now temptation in the deal caused me to behave irrationally. The symptom of this behavioural bias goes something like this.

When I have agreed to wait for six days, I don’t mind waiting for one more day. Well, if I can wait for six, goes the rationale, waiting for seven shouldn’t be a big deal!

But when I am told that I can get something today instead of tomorrow, my temptation refuses to wait for another day.

The 38th Lesson

On a warm Sunday morning in early-April this year, I got up with some pain in the little finger of my left hand. It was a small bump. It wasn’t there when I slept the previous night, so it seemed to have appeared out of nowhere.

“You may have hurt your finger while sleeping,” said my wife.

“But there’s no sign of a cut or bleeding!” I told her. “What could be this?”

“It happens sometimes,” she tried to soothe my nerves.

Anyways, a week passed, and then two, and that bump got slightly bigger. It was a bit painful earlier, then more, and then the pain gradually reduced. But the redness and the bump remained.

Over the next two months, I saw around five different doctors, and all asked me to wait and watch and do nothing. I thought none of these doctors knew anything about this bump because each one had named it differently. And that is when I did something I now realize was one of the biggest mistakes I’ve ever made in my life.

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Short Investing Lesson from a Confused Donkey

I was listening to Tim Ferriss’s recent podcast where he interviewed Derek Sivers. In a response to the question “What advice you would give to your 20-year-old self?”, Sivers told the story of Buridan’s donkey.

It’s a tale about a donkey that’s standing exactly halfway between a bucket of water and a pile of hay. The donkey is confused for the poor animal can’t decide where to go first. He just keeps looking to the left to the hay and right to the water. Unable to come out of the deadlock, the donkey eventually falls over and dies from hunger and thirst.

It’s actually a thought experiment that illustrates a paradox in philosophy. The paradox is named after the 14th-century French philosopher Jean Buridan.

Are you wondering, what’s a philosophical angle about a donkey’s personal problem got to do with investing? Please bear with me for few more lines. I’ll come to it.

Let’s first understand how this paradox is connected to Siver’s advice for younger self.

Safal Niveshak Stream – December 3, 2016

Some nice stuff we are reading, watching, and observing at the start of this weekend…

Investing/Stock Market

(850 words / 3 minutes read) We are fortunate to be living in an era where we have all the teachings of wise investors available to us. As compared to 19th century, it has become much easier and cheaper for small investors to participate in the growth of businesses through stock market. Jason Zweig, in his recent article, reminds us some of the greatest words of investing wisdom that have been spoken in the past century. Zweig writes –

You don’t need to have known these people to be grateful for their wisdom. As the biologist Richard Dawkins pointed out in a lecture in 1996, many of us today know more about the world around us than Aristotle, the greatest mind of his age, did more than 2,300 years ago: “Science is cumulative, and we live later.

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Latticework of Mental Models: Illusion Of Control

Every day, shortly before nine o’clock in the morning, a man with a red hat stands at a busy traffic light and begins to wave his cap frantically. After five minutes he disappears.

One day, a policeman comes up to him and asks: “Sir! May I ask what you are doing?”

“I’m keeping the giraffes away,” replies the man.

The puzzled policeman looks around and tells him, “But there aren’t any giraffes here.”

“Well, I must be doing a good job, then.” says the man proudly.

You would conclude that the man with the red hat wasn’t in the pink of his mental health. However, is it just a case of misplaced understanding of causation vs correlation? Actually, there is more to it.

The man’s belief, that absence of evidence (giraffes) is a proof of his prowess in controlling giraffe traffic, is the result of a behavioural bias called Illusion of Control. It’s the tendency to believe that we can influence something over which we have absolutely no sway.

So where does this behavioural quirk come from? In millions of years of evolution, Mother Nature has hard-wired this cognitive bias in the human brain to increase the chances of survival in a hunter-gatherer environment. It’s nature’s way to deal with uncertainty.

Of Falling Stock Markets and Shutting Brains

In one of the old interviews of Mohnish Pabrai of Pabrai Funds, he described the root cause of a common, but difficult to overcome, inefficiency in share prices –

Our brains are in sync with the speed at which the market is moving and totally out of sync with the speed at which a business is moving. You have to learn to dramatically slow your brain, which is very hard for most people. The reality is that you should make decisions based on how the business is changing, and that’s a very slow process.

You wouldn’t know that businesses change slowly from the share price activity in the stock market. Such volatility, of course, can be a boon for the disciplined investor waiting for what Warren Buffett refers to as a “fat pitch.” Most maintain a watch-list of what they consider to be superior companies that they would be happy to buy, but only at the right price. But the problem for most of us lies in deciding what that right price is because most of us find it difficult to understand what that underlying value of the business is, to which we must relate the price. And thus, most of us would rather make our decisions just looking at stock prices – especially when they are moving fast, up or down – than underlying intrinsic values.