Thinking about investing rules

I recently finished reading Guy Spier's book The Education of a Value Investor. The book was interesting but unremarkable: there won't be a whole lot new for well-read investors.

Spier himself seems rather unlikeable. He comes across in parts as vain and self-conscious and driven by ego and status: what Mr Buffett might describe as an "outer scorecard". He does, however, do a great deal of reflection about this in the book. Nevertheless, the book was interesting in parts and worth reading.

Some of the best parts were when Guy was discussing his good friend Mohnish Pabrai. (Spier and Pabrai famously paid $650,100 to have lunch with Buffett in 2008.) The real takeaways, in my opinion, were in the chapter about Spier's investing process. Here he describes eight rules, routines and habits he has developed over the years with help from Pabrai.

Many of these principles make a good deal of sense, and as someone still developing a sound investment process, I intend to incorporate them into my decision making. So here they are — Guy Spier's eight investing rules.

1.  Stop checking the stock price. I have a terrible habit of constantly checking stock prices. This habit is dumb and pointless — and I intend to break it as soon as possible. We know from the great psychologists Kahneman and Tversky that investors feel the pain of loss twice as acutely as the pleasure of gain. We also know from psychology that humans have limited willpower. While a stock market portfolio with average volatility is typically up in most years over a 20-year period, there is a much higher probability that it will be down on any given day — which exposes us to making bad decisions due to our psychology. My concentrated portfolio will have above-average volatility, which amplifies this situation and the risk of making bad decisions. So from now on, I'm going to limit myself to checking stocks once a week. Peter Phan has written an excellent blog post on this topic for those interested in reading further.
2. If someone tries to sell you something, don't buy it. Spier has developed a heuristic to avoid being conned: he won't buy anything from people trying to sell to him. Whether it's technology for his fund or an IPO, if there's someone on the blower with a sales pitch, Spier simply says "I'm sorry but I don't allow myself to buy anything that's being sold to me". This is eminently sensible: buying something from someone who has a self-interest in your buying can be a recipe for disaster. From time to time, this will mean you might miss a good deal or two, but you're certain to come out much better in the end. 
3. Don't talk to management. Spier did a lot of talking to management in the early days of running his fund. His experience taught him that close contact with management is more likely to be detrimental to his returns than the opposite. This might sound unintuitive, but managers tend to be charismatic and this can muddle our thinking. This is not to say managers aren't important to a business's prospects, but that first impressions can be misleading. Charlie Munger points out, when it comes to thinking about management, the paper record should count much more than any interview. I haven't done much talking to management yet and don't intend to change this in future. However, investing in small companies means that talking to management can be extremely useful from time to time. Buffett, of course, was always one to talk to the managers and it worked out pretty well for him.
4. Gather investment research in the right order. There are a couple of points here. Firstly, as Munger's misjudgement speech points out, we tend to give more weight to ideas that enter our brain first. In investing, we might for instance, hear a stock pitch from a fellow investor that muddy the waters of our thinking. Spier makes a few suggestions: he says if someone starts suggesting a stock to investigate, he stops them in their tracks until he's had some time to do his own reading and investigation. At that point, but not before, he's happy to have a conversation about it. The second point is that we should be careful about the order in which we read materials about a prospective investment. Spier's process is to start with unemotional public filings such as the annual and half-yearly reports, especially notes from the auditors. After that, he'll turn to less objectives sources: for instance press releases, news articles, presentations and the like. If the business is a well-known one, like Berkshire, there might be a good book to read. In some cases, they might be thorough enough to read even before the corporate material. Equity research should never be relied on and should be read only once you have formed your own impression of a company or industry. It can be useful to know what the consensus is in the market, but reading others' research early on will only muddy your thinking.
5. Discuss your investment ideas only with people who have no axe to grind. This is another good tip. If you have an investment idea, it doesn't make a great deal of sense to talk about it with someone who already owns it or someone who has come out publicly as a bear. Trust is another important thing: Spier suggests that discussions about investment ideas should be strictly confidential, that no party should tell the other what to do, and that the parties shouldn't have a business relationship that could skew the agenda. Investing is largely a solitary activity for me at present, but over time, I expect that I'll discuss ideas with other like-minded investors. I'll be keeping these ideas in mind when I do.
6. Never buy or sell stocks when the market is open. This is an idea Spier has appropriated from Mohnish Pabrai. By limiting trading until after trading hours, we can help detach ourselves from price action that can stir up our emotions. The market needs to be our servant not our master. (Spier admits that he breaks the rule occasionally when there are particularly compelling reasons to trade during market hours.) Once again, I think this ideas makes a great deal of sense and I intend to incorporate it into my own process.
7. If a stock tumbles after you buy it, don't sell it for two years. The hardest part of stock market investing is selling. Another hard part is seeing a stock you've recently bought tumble. This experience can be emotionally fraught and lead to bad decisions. To counter this, Mohnish developed the two-year rule to deal with the psychological forces at play. I intend to adopt this rule for the G&W portfolio, which will have wide-ranging consequences. The rule works in two ways: first, the two-year minimum makes you think especially hard before laying down money on a stock; secondly, it'll prevent situations where stocks are sold too early simply due to the psychological impacts of price action. Obviously, I will retain the right to sell out before two years if the investment was a mistake or it is impacted by a major development. I haven't had to sell any stocks in the G&W portfolio yet except for a couple of arbitrage opportunities. Selling is an important topic so I hope to write a blog post about it when I do finally make a sale.
8. Don't talk about your current investments. This has to do with our well-documented bias, as humans, to be consistent with our prior statements. Simply put, it is emotionally difficult to back away from what we've said, even if we come to regret that opinion. This is described in Robert Cialdini's great book, Influence. I'm a bit conflicted about this, because while I agree with Spier, writing posts about stock picks could be a useful exercise for me to develop my skills. I am yet to write a post explaining my reasons for holding any particular stock and after reading this, I'm not sure if I will. It may be that writing a post-mortem is a better option. 

Finally, I'll leave you with a deeply insightful interview with Charlie Munger, where he discusses business, Bitcoin and everything in between. You'll learn much more from this one-hour video than you ever will from me.

Until next time.