Hubris Factory

“The real secret to investing is that there is no secret to investing. Every important element of value investing has been made available to the public many times over, beginning in 1934 with the first edition of Security Analysis.” Investing is enticingly easy to monetise. You get cost centres (need money) and profit centres (make money). A good business is one where you have something that is easy to count and communicate. “I’ll grow your money” fits the bill. Pricing is also easy with, “I’ll take a percentage”. The two key elements are good capital allocation (what work the money does) and reversion to mean (prices typically overreact and true normal is less noisy). The downside of all this simplicity is that investing is a hubris factory. The real work gets done by the underlying businesses, but investors often think it is an extension of classroom exam results (which also oversimplify the process of ranking people). An Investor’s entire career of being a rock star can come tumbling down with factual evidence that they have done no better than average. They’ internalise the good times and excuse the bad. The real secret of investing and good businesses is that it is not about you. It is about putting money to work, and reinvesting. Custodianship, not proof of worth.

Revert to Mean

Reversion to Mean is the reliable default assumption that you should take “this changes everything” with a pinch of salt. Habits run deep. Normal changes slowly. Normally. The hardest part of a fast is breaking the fast, gradually returning to more sustainable behaviour while maintaining the essence of the changes you took to an extreme. The danger is that big changes lie in the tails. The Fat Tails. Thinking the world can be neatly summarised into Risk and Return numbers that drive your decisions is like learning to drive on a farm, or learning to shoot fish in a barrel. Reversion to Mean works well enough that it is a Hubris factory. It can build track records of success that turn men into demi-gods. Till the day you realise the world is too complicated, ambiguous, and random to control. Till you realise you are not a God, and the best everyone can do is do their best. Till you personally, revert to mean.

Beware the Extremes

Touched by the Gods

If a tall man has a son, chances are the son will be shorter than him. Mean reversion. Things tend to be pulled back to their long-term average. But we tend to run like headless chickens after things that are doing well, which (if it involves limited supply and demand) leads to self-fulfilling (and often excessive) further success. Momentum. The trend is your friend. Till it isn’t. These two forces compete and create a large cloud of smoke around investment performance. Numbers mean very little over a short period, and over a long period are stale (they tell more about what has happened, than what will happen). I don’t believe investors are touched by the Gods. Even the father of value investing, Benjamin Graham, only modestly outperformed the benchmark. I believe what really matters is the actual work the Capital is doing, risk management, and making sure that the Capital is earning its keep over a long period of time. It isn’t about being clever. It isn’t about being different. It is about solving problems consistently and sustainably.