One Investing Trait to Rule them All
Knowing when to employ time-tested investing virtues is a key to long-term success
Ten years ago, I wrote a blog post reflecting on my first decade in the investment industry, identifying ten lessons I learned to that point.
I’ll spare you a list of 20 lessons now that I’ve recently passed the 20-year mark, but I’ll share one insight I didn’t understand earlier in my career.
Earlier this year, Jason Zweig wrote an article outlining what he believes are the seven virtues of great investors. They are curiosity, skepticism, independence, humility, discipline, patience, and courage.
I can’t disagree with any of those virtues, and Zweig is spot-on that they are traits shared by great investors. What I believe sits above them all, however, is discernment – the ability to accurately assess and judge circumstances for which there’s no apparent correct choice.
Here’s what I mean. Patience is usually a virtue in investing, but there are times when impatience is more prudent.
In his 2009 shareholder letter, Warren Buffett lamented a missed opportunity to invest in corporate and municipal bonds during the financial crisis, noting, “I should have done far more. Big opportunities come infrequently. When it’s raining gold, reach for a bucket, not a thimble.”
An investor who insists on patience amid a crisis would let the storm pass and stay the course without adjusting the sails. This is a fair strategy, of course. Discernment, however, is recognizing when it’s time to be impatient and seizing upon a rare opportunity. It’s knowing when to reach for the bucket instead of the thimble.
Upon reading Buffett’s quote, my younger self would have said, “Ah, that’s brilliant! I’ll be sure to get aggressive during the next panic and bring my bucket.” But older me knows better. I’ve been through a few panics now.
Panics have the annoying feature that they contain a kernel of truth. The global financial system really was on the brink in 2008. March 2020 really was terrifying. In the moment, it’s hard to tell whether the panic is justified. After all, our brains are wired to follow a crowd of people in a panic and run away from danger.
In March 2020, it wasn’t clear in the moment how COVID might impact companies. No investor had included the prospect of zero revenue for a few weeks or months in their companies’ bear case scenarios. However, that was a real possibility for some companies in the early days of COVID quarantines.
Author Roger Lowenstein once highlighted a prominent fund manager’s comment after the 1973-74 market collapse, following the rise and fall of Nifty Fifty stocks, that I think illustrates this point:
“I wish we could say that we have strong preferences for areas that are unique right now, but we don’t, partly because we don’t think it’s time to try to be a hero…to be terribly venturesome, unless you could put me on [an] island and we were taking a three-year view.”
With hindsight, it’s easy to say the fund manager was too short-sighted and that it was precisely the right time to be a hero. He may have known the right thing to do but couldn’t bring himself to do it because of the short-term pressures and how he might look if he was wrong. His response may not have been rational, but it was reasonable.
Investing lore is steeped in stories about intrepid investors who bet big in a panic and built fortunes from being correct. Sir John Templeton, for example, famously borrowed money at the onset of World War II in 1939 to buy 100 shares of 104 companies selling at $1 or less per share.
While that was a legendary move, we know the story because it was successful. For every legendary investment made near the point of actual “maximum pessimism” that proved lucrative, there are hundreds of stories of investors who were wiped out playing the contrarian card too soon. We don’t hear those stories.
Even if you can discern that fear is ruling the day and stocks are attractive long-term investments, it still takes tremendous emotional fortitude to bring out even the thimble when everyone else is taking shelter.
Discernment is about knowing the right balance of each virtue. Humility – acknowledging you might be wrong and that luck plays a role in your outcomes – is a trait every investor should possess to some degree.
That said, the very act of making a sizeable investment in any business and believing it’s materially undervalued by a global marketplace of reasonably intelligent investors is itself arrogant. If you’re too humble, you won’t invest; if you’re too arrogant, you’ll come down to earth at some point.
As such, it’s important to know where you fall on the humility-arrogance spectrum at given points of any investment. For example, if you’re feeling defensive or self-righteous about an investment thesis, you’re probably falling on the side of arrogance. Conversely, you’re probably being too humble if you’re doubting your work after doing good research. Neither extreme leads to the outcome you desire.
Discernment comes from experience, and experience, as the late Randy Pausch put it, “is what you get when you didn’t get what you want.”
Look, you can read books about what it was like during market panics and euphoria, but until you live through them, discover how you respond to them, and make the mistakes yourself, you’re not gaining the type of experience that leads to discernment.
The earlier you start managing money – your own or someone else’s – the more opportunities you’ll have to gain wisdom and discernment. Following the market and commenting from the stands isn’t sufficient. You need skin in the game to feel the emotional and mental toll it can take and learn how to work through it.
I’m fortunate to have been an investor for 20 years. There’s always something new to learn, I’ve been surrounded by intelligent and driven investors in all the places I’ve worked, and the experience of following the markets has taught me a lot about myself. Hopefully, it all leads to better discernment in the coming decades.
Stay patient, stay focused.
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