Another 5 Beliefs that hold investors back

Our previous blogs highlighted some damaging investment beliefs. To recap:

  1. Belief #1: Money in the bank is safe.
  2. Belief #2: Investing is optional.
  3. Belief #3: Buying and selling shares is the way to make money.
  4. Belief #4: Investing and speculating are the same things.
  5. Belief #5: I can lose all my money if markets crash.
  6. Belief #6: Investment success means beating the “market”.
  7. Belief #7: The primary goal of investing is capital gain.
  8. Belief #8: Great investors focus on generating big gains.
  9. Belief #9: I have lost money if a share price declines.
  10. Belief #10: Warren Buffett says “buy index funds”.

 

Here are five more damaging beliefs to supplement the ones above.

 

Belief #11: Share prices are not affected by investor emotion.

The great investors agree psychology drives market prices.

 

“I will tell you how to become rich. Close the doors. Be fearful when others are greedy. Be greedy when others are fearful.”

Warren Buffett

 

“The discipline which is most important in investing is not accounting or economics, but psychology.”

Howard Marks

 

“Investor psychology can cause a security to be priced just about anywhere in the short run, regardless of fundamentals.”

Howard Marks

 

“Psychological influences are a dominating factor governing investor behaviour. They matter as much as—and at times more than — underlying value in determining securities prices.”

Seth A. Klarman

 

Emotional control is fundamental to investing success. Without it, investors make irrational decisions like buying when prices rise beyond the future value of a company’s cash flows (like in strong bull markets and at the extreme, in bubbles) and sell when markets decline. Emotions of fear and greed cause irrational investors to “buy high and sell low”, instead they should be buying at fair value and never selling.

 

Belief #12: A stock market crash is a disaster.

Stock market crashes represent a rare opportunity for the prepared investor.

 

“Tumbling markets can be helpful to the true investor if he has cash available when prices get far out of line with values.”

Warren Buffett

 

When questioned by Forbes Magazine about how he felt after a stock market crash, Warren Buffett answered excitedly “Like an oversexed guy in a brothel. Now is the time to invest and get rich!“

 

Down markets are an excellent opportunity to buy shares in quality companies that you understand through thorough research and business analysis. It is not possible to know when markets will decline so your investment strategy must ensure you have cash available to buy when markets fall. Taking advantage of a down market requires knowledge and emotional control.

 

Belief #13: You have to understand all companies to succeed in the market.

Successful investors follow the same principles but apply them in different ways to different assets. What they have in common is a focused area of expertise, described as a “circle of competence” by Warren Buffett and Charlie Munger.

 

The great investors invest in sectors and companies in which they are experts. They focus. They don’t try and know everything about all things. Great investors like Warren Buffett and his partner Charlie Munger favour companies in industries that are stable (in their words “boring”) and have a high probability of increasing cash generation for years to come.

 

“What an investor needs is the ability to correctly evaluate selected businesses. Note that word “selected”: You don’t have to be an expert on every company, or even many. You only have to be able to evaluate companies within your circle of competence. The size of that circle is not very important; knowing its boundaries, however, is vital.”

Warren Buffett

 

Belief #14: Magic formulas are the key to stock market success.

George Soros’s Theory of Reflexivity says the behaviour of market participants alters the market. Thus, no formula will be a winner forever.

 

“Investors should be sceptical of history-based models. Constructed by a nerdy-sounding priesthood using esoteric terms such as beta, gamma, sigma and the like, these models tend to look impressive. Too often, though, investors forget to examine the assumptions behind the symbols. Our advice: Beware of geeks bearing formulas.”

Warren Buffett

 

“We haven’t succeeded because we have some great, complicated systems or magic formulas we apply or anything of the sort. What we have is just simplicity itself.”

Warren Buffett

 

Great investors succeed because they are patient and disciplined. They understand the businesses that underlie the shares they purchase by analysing their cash flows and long-term competitive advantages.

 

“There isn’t a single formula. You need to know a lot about business and human nature and the numbers. It is unreasonable to expect that there is a magic system that will do it for you.”

Charlie Munger

 

“In my opinion, investment success will not be produced by arcane formulae, computer programs or signals flashed by the price behaviour of stocks and markets. Rather an investor will succeed by coupling good business judgement with an ability to insulate his thoughts and behaviour from the super-contagious emotions that swirl about the marketplace.”

Warren Buffett

 

Belief #15: High energy, active investors get the best returns.

The great investors understand that you have to be patient and wait for the right opportunities to come along. This approach may result in long periods of inactivity until a “fat pitch” appears so that you can buy shares in quality companies at discounted prices.

 

“The stock market is designed to transfer money from the active to the patient.”

Warren Buffett

 

“There aren’t always great things to do, and sometimes we maximize our contribution by being discerning and relatively inactive. Patient opportunism – waiting for bargains – is often your best strategy.”

Howard Marks

 

These long periods of buying and selling inactivity are productively filled with preparation to act when opportunities present themselves.

 

“The big money is not in the buying and selling … but in the waiting.”

Charlie Munger

 

“There are huge advantages for an individual to get into the position where you make a few great investments and just sit back. You’re paying less to brokers. You’re listening to less nonsense…If it works, the governmental tax system gives you an extra one, two, or three percentage points per annum with compound effects.”

Charlie Munger

 

At AXIAM, we believe Warren Buffett when he says “I think sound investing can make you very wealthy if you are not in too big of a hurry. And it never makes you poor, which is better”. We focus on a long-term investment strategy built on 11 Investment Principles gleaned from the world’s great investors like Warren Buffett, Howard Marks and Charlie Munger. Contact our fund managers or sign up for our newsletter if you would like to learn more about investing your capital to provide ongoing retirement income.

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