Vishal Khandelwal

[Notes] Skin in The Game by Nassim Taleb

The problem with Taleb is not that he’s an a**hole. He as an a**hole. The problem with Taleb is that he is right.

Those are not my words. It’s from one of the blurbs for Taleb’s book Skin in The Game. And among many other surprising things about the book, one is that all the blurbs that appear on the jacket aren’t from other famous authors. Taleb took the testimonials from ordinary readers and printed it on the back of the book. Not because other famous authors weren’t willing to offer their testimonials — many of them would be honoured to do that — but it’s because Taleb doesn’t care.

Those who have read his books agree on one thing — Taleb is idiosyncratic and he is a genius.

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Move Forward, But with Caution: Lessons on How to Deal with Bull Markets

Recent advances in neuroscience and physiology have shown that when we take risk, including financial risk, we do a lot more than just think about it.

We prepare for it physically. Our bodies, expecting action, switch on an emergency network of physiological circuitry, and the resulting surge in electrical and chemical activity feeds back on the brain, affecting the way it thinks. In this way, the body and the brain string together as a single entity, united in the face of challenge.

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It’s Not Supposed to Be Fair

In 1999 when Warren Buffett bought a 75% stake in MidAmerican Energy Holdings Company, David Sokol was its CEO. He retained his position till 2008. Apart from managing MidAmerican, Sokol played a crucial role in turning around Berkshire’s other investments like NetJets and Johns Manville. Over the years he established a reputation inside Berkshire Hathaway as Mr. Fixit.

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The World’s Best Investing Checklist

Peter Kaufman has done an amazing job compiling some of the world’s best lessons on investment behaviour into a masterpiece. We know it as Poor Charlie’s Almanack, which is a collection of speeches and talks by Charlie Munger.

While the entire book is one amazing journey through the mind of one the greatest investment and behavioural thinkers of our times, one part that takes the cake is where Kaufman has condensed Munger’s teachings into a checklist.

He calls this “Investing Principles Checklist”, as it contains the core principles that has made Munger the brilliant investor he is today.

These principles can further be condensed into four most basic guiding principles of life and investing – Preparation. Discipline. Patience. Decisiveness.

These principles cannot be prioritized in terms of any importance. Rather, together, they make up a sensible, thinking, and disciplined investor’s mental toolkit.

Munger’s Investing Principles Checklist
1. Risk – All investment evaluations should begin by measuring risk, especially reputational.

Incorporate an appropriate margin of safety
Avoid dealing with people of questionable character
Insist upon proper compensation for risk assumed
Always beware of inflation and interest rate exposures
Avoid big mistakes; shun permanent capital loss

2. Independence – “Only in fairy tales are emperors told they are naked.”

Objectivity and rationality require independence of thought
Remember that just because other people agree or disagree with you doesn’t make you right or wrong – the only thing that matters is the correctness of your analysis and judgment
Mimicking the herd invites regression to the mean (merely average performance)

3. Preparation – “The only way to win is to work, work, work, work, and hope to have a few insights.”

Develop into a lifelong self-learner through voracious reading; cultivate curiosity and strive to become a little wiser every day
More important than the will to win is the will to prepare
Develop fluency in mental models from the major academic disciplines
If you want to get smart, the question you have to keep asking is “why, why, why?”

4. Intellectual humility – Acknowledging what you don’t know is the dawning of wisdom.

Stay within a well-defined circle of competence
Identify and reconcile disconfirming evidence
Resist the craving for false precision, false certainties, etc.
Above all, never fool yourself, and remember that you are the easiest person to fool
“Understanding both the power of compound interest and the difficulty of getting it is the heart and soul of understanding a lot of things.”

5. Analytic rigor – Use of the scientific method and effective checklists minimizes errors and omissions.

Determine value apart from price; progress apart from activity; wealth apart from size
It is better to remember the obvious than to grasp the esoteric
Be a business analyst, not a market, macroeconomic, or security analyst
Consider totality of risk and effect; look always at potential second order and higher level impacts
Think forwards and backwards – Invert, always invert

6. Allocation – Proper allocation of capital is an investor’s number one job.

Remember that highest and best use is always measured by the next best use (opportunity cost)
Good ideas are rare – when the odds are greatly in your favor, bet (allocate) heavily
Don’t “fall in love” with an investment – be situation-dependent and opportunity-driven

7. Patience – Resist the natural human bias to act.

“Compound interest is the eighth wonder of the world” (Einstein); never interrupt it unnecessarily
Avoid unnecessary transactional taxes and frictional costs; never take action for its own sake
Be alert for the arrival of luck
Enjoy the process along with the proceeds, because the process is where you live

8. Decisiveness – When proper circumstances present themselves, act with decisiveness and conviction.

Be fearful when others are greedy, and greedy when others are fearful
Opportunity doesn’t come often, so seize it when it comes
Opportunity meeting the prepared mind; that’s the game

9. Change – Live with change and accept unremovable complexity.

Recognize and adapt to the true nature of the world around you; don’t expect it to adapt to you
Continually challenge and willingly amend your “best-loved ideas”
Recognize reality even when you don’t like it – especially when you don’t like it

10. Focus – Keep things simple and remember what you set out to do.

Remember that reputation and integrity are your most valuable assets – and can be lost in a heartbeat
Guard against the effects of hubris (arrogance) and boredom
Don’t overlook the obvious by drowning in minutiae (the small details)
Be careful to exclude unneeded information or slop: “A small leak can sink a great ship”
Face your big troubles; don’t sweep them under the rug

In the end, it comes down to Munger’s most basic guiding principles, his fundamental philosophy of life: Preparation. Discipline. Patience. Decisiveness.

A Father’s Lessons for Life and College

My dearest Kavya,

As I sit down to write this letter, tears well up in my eyes, and my heart swells with a mix of pride and sadness.

I am still not able to believe that you were in kindergarten just a minute ago (or so it seems), and leaving home today to spread your wings and embark on this incredible journey called ‘college.’

You are all grown up, and though it’s hard to let go, I know that this is just the beginning of an extraordinary chapter in your life.

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The Art of Making Good Decisions

Who wakes up every morning thinking, “I am going to make bad decisions today”?

No one.

Yet we all make poor decisions, more often than we want to. Surprisingly that’s not the biggest irony.

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Stress and Investing: A 20-Point Checklist

I was at my hometown recently and chanced upon a friend who works as an investment banker in Delhi. We had met almost after 15 years, and so I could notice a big contrast in his looks as compared to what it was in the early 2000s. He looked much older than his age, around 39, and so I enquired about his health.

To my utter shock, he said, “I had an angioplasty late last year, where they put a tiny tube in my blood vessel to restore blood flow through my arteries.”

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In short, he meant, “I just survived a heart attack.”

“Stress is part of my job profile, you see,” he shrugged it off jokingly.

I had earlier read of a 35-year-old London-based hedge fund trader who died of a heart attack in 2013, and of the head of JP Morgan’s equity sales, aged 37, who had also died of heart failure in 2012. But my friend was, well, my friend, and thus the gravity of the situation weighed heavier this time.

“Is it worth it?” I asked my friend.

[Read more…]

Of Lucky Idiots and Orangutans

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Howard Marks of Oaktree Capital wrote this in one of his 2006 memos to shareholders titled ‘Risk‘ –

In the investing world, one can live for years off one great coup or one extreme but eventually accurate forecast. But what’s proved by one success? When markets are booming, the best results often go to those who take the most risk. Were they smart to anticipate good times and bulk up on beta, or just congenitally aggressive types who were bailed out by events? Most simply put, how often in our business are people right for the wrong reason?

These are the people Nassim Nicholas Taleb calls “lucky idiots,” and in the short run it’s certainly hard to tell them from skilled investors.

Warren Buffett, in his brilliant 1984 article titled The Superinvestors of Graham-and-Doddsville, describes a contest in which each of the 225 million Americans starts with US$ 1 and flips a coin once a day. The people who get it right on day one collect a dollar from those who were wrong and go on to flip again on day two, and so forth. Ten days later, 220,000 people have called it right ten times in a row and won US$ 1,000.

Buffett writes –

Now this group will probably start getting a little puffed up about this, human nature being what it is. They may try to be modest, but at cocktail parties they will occasionally admit to attractive members of the opposite sex what their technique is, and what marvelous insights they bring to the field of flipping.

After another ten days, there are 215 ‘survivors’ who have been right 20 times in a row and have each won US$ 1 million. By this exercise, each have turned one dollar into a little over $1 million.

…this group will really lose their heads. They will probably write books on “How I turned a Dollar into a Million in Twenty Days Working Thirty Seconds a Morning.” Worse yet, they’ll probably start jetting around the country attending seminars on efficient coin-flipping and tackling skeptical professors with, “If it can’t be done, why are there 215 of us?”

By then some business school professor will probably be rude enough to bring up the fact that if 225 million orangutans had engaged in a similar exercise, the results would be much the same — 215 egotistical orangutans with 20 straight winning flips.

This is a very important story and the reason I am reminding you of this today is because there are now more than 215 egotistical orangutans that are talking about how they have turned small amounts of money into millions investing in stocks and elsewhere and how you can do that easily too.

Worse, each of these 215 have a following of more than 215,000, so you can understand the multiplier effect of the ‘how to get rich easily from stocks’ theory.

Even worse, they are not chest-thumping hanging on trees of some far off jungle, but in a computer or mobile screen right in front of you, on Twitter, YouTube, and everywhere.

Buffett said –

Only when the tide goes out do you discover who’s been swimming naked.

Sir John Templeton said –

The four most dangerous words in investing are: this time it’s different.

This time is not any different, and I wish you realize this now and not when the tide goes out.

There will be a lot of naked swimmers then. I wish you are not one of them.

Watch out.

That’s about it from me for today.

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Stay safe.

Regards, Vishal

Be Water, My Friend

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It is not the strongest or the most intelligent who will survive but those who can best manage change. – Charles Darwin

The thing that separates us humans from other animals is that we constantly change into new forms, new avatars. We are sad, we are happy, we are emotional, and we are angry. We communicate through different languages, we do different kinds of work, and we deal with different kind of people differently. Effectively, we keep on changing ourselves as per the demands of time and situation.

In fact, success in life depends largely on whether we are able to change ourselves with changing times.

If we are flexible and formless – like water – taking the form of whatever is around us, we gain power and succeed against those who rigidly hold on to their ground.

Despite this, when it comes to our ideas – especially when we have only one – we rigidly hold on to them.

This is very much like Henry Ford who supposedly said, “People can have the Model T in any colour – so long as it’s black.” This nearly ruined Ford Motors Company in the 1920s, because while Mr. Ford was in love with his idea of “only black Model T” cars, Americans were shifting to bigger, faster, fancier, and brightly painted automobiles.

Or very much like the old “me” who would often not change views on stocks even when circumstances changed, and paid heavy prices.

I see investors fall in love with their stocks in the garb of ‘buy and hold’. We will hold on to bad businesses, and especially those that are going downhill. We will remain stuck in a status quo mode because we hate to admit we have lost money. We will even put a higher value on the stocks we already own than we would be willing to pay for the same things if we didn’t own them. All this because we are too rigid to change our ideas, even when circumstances are shouting at us to do so.

If you have been through such a moment in your own life (or investing life), you would like to hear what Bruce Lee, who died 50 years ago, today, advised –

Empty your mind. Be formless, shapeless, like water. Put water into a cup, it becomes the cup. Put water into a teapot, it becomes the teapot. Water can flow or creep or drip or crash. Be water, my friend.

Haruki Murakami wrote this in Kafka On The Shore –

Sometimes fate is like a small sandstorm that keeps changing directions. You change direction but the sandstorm chases you. You turn again, but the storm adjusts. Over and over you play this out, like some ominous dance with death just before dawn. Why? Because this storm isn’t something that blew in from far away, something that has nothing to do with you. This storm is you. Something inside of you. So all you can do is give in to it, step right inside the storm, closing your eyes and plugging up your ears so the sand doesn’t get in, and walk through it, step by step. There’s no sun there, no moon, no direction, no sense of time. Just fine white sand swirling up into the sky like pulverized bones. That’s the kind of sandstorm you need to imagine.

And you really will have to make it through that violent, metaphysical, symbolic storm. No matter how metaphysical or symbolic it might be, make no mistake about it: it will cut through flesh like a thousand razor blades. People will bleed there, and you will bleed too. Hot, red blood. You’ll catch that blood in your hands, your own blood and the blood of others.

And once the storm is over you won’t remember how you made it through, how you managed to survive. You won’t even be sure, in fact, whether the storm is really over. But one thing is certain. When you come out of the storm you won’t be the same person who walked in. That’s what this storm’s all about.

Problems arise all the time in life and in investing, and you can try to keep your rigid shape, smashing into the problems until you break. Or you can be like water and slip through the cracks.

Charlie Munger said –

The game of life is the game of everlasting learning. At least it is if you want to win.

In fact, a few of life’s great pleasures are to keep learning, letting go of previously cherished ideas, and emptying your mind for new ideas to come in. Then you’re free to look for new ones.

Be formless. Be adaptable. Be open to new ideas. Like water.

It’s indeed a pleasure to be water, my friend.

That’s about it from me for today.

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With respect,
— Vishal

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The Art of Asking Good Questions

Two hunters are out in the jungle when suddenly one of them collapses. His pulse is gone and his eyes are glazed. The other guy yanks out his cell phone and calls the emergency services.

He gasps, “My friend is dead! What should I do?”

The operator says “Calm down, sir. I can help. First, let’s make sure if he’s really dead.”

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