Synopsis–Most people who think that nothing is to be learned are actually doing so because they are talking not about learning, but copying. There’s a world of difference between learning and copying.
Over the past few weeks, I have written several columns that are based on what two great investors—Warren Buffett and Charlie Munger—have written and said in recent times. As long-time readers of this page know, this is something I do once in a while, probably more often than some people like. And what objection do these ‘some people’ have? Based on reactions I receive, it’s mostly that they find it hard to understand the relevance of experiences of two old, old men who are among the richest in the world and have hundreds of billions of dollars of assets.
Buffett and Munger buy large chunks of companies like Apple, they also buy controlling stakes in companies like BNSF, a giant railway company. What can they teach us? A lot, actually. Of course, this objection can be raised about watching and learning from any investment guru, and often is. In fact, this is true of any field: what can a street cricketer learn from watching Virat Kohli?
The answer lies entirely in what you are trying to learn. Most people who think that nothing is to be learned are actually doing so because they are talking not about learning, but copying. There’s a world of difference between learning and copying. Munger says, just as an example, that diversification is actually ‘diworsification’. It’s better to invest in a handful of companies that you understand well rather than some large number. Is this an argument against diversification? Not the least bit. This particular argument actually has NOTHING to do with diversification. It is, instead, an argument for only investing in companies and industries that you understand, and can pay attention to. It so happens that there is a relationship between how many companies you can understand. Someone who has collected 40-50 stocks is over-diversified in this sense.
“A common form of copying an expert is looking at the portfolio of a well-known investor and then buying some stocks that are there. This never works.”
— Dhirendra Kumar
One of the most common forms of copying an expert is actually looking at the actual portfolios of professional or well-known investors and then just buying some stocks that are there. This never works. A stock plays a role in a portfolio. It’s there because there is a context. One investor’s risk level may be different from another. His understanding level of what the business is, why it should be invested in and to what extent and for how long may be completely unknown to anyone else. Just copying actions does not work.
Some years ago, I heard a talk by another great investor, Howard Marks, explaining this very point by giving an analogy from tennis. He said that top tennis players win by playing a lot of shots that are winners. A Djokovic or Nadal or Williams often play shots that few of their opponents can handle, and play such shots with great regularity. However, amateur players can’t play such shots, except by rare chance. Marks says that watching amateurs—even good amateurs— makes it clear that for them, the key to winning is to not hit losers, instead of hitting winners. A good amateur player believes that if he or she can just get the ball over the net and keep that going for a few shots then sooner or later, the opponent will make a mistake. Amateurs achieve their victories by just managing to do the ordinary thing competently and consistently. The lesson for investing is clear, and is derived from what great players do, but is a result of observing the contrast between them and ordinary ones. What does that mean in the context of investing? It means that one of the basic tenets of investing is that avoiding mistakes is far more important than making brilliant choices.
Copying someone who is much better does not work, but observing and understanding definitely does.
(The writer is CEO, Value Research.)