You don’t need to be Einstein to Invest well but Rules and Discipline can help

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Following on from a different Blog I put out recently that was inspired by some text written by Chris Dillow in Investors Chronicle, again I have been reading one of his Articles and taking inspiration from it. This one appeared in the Magazine from 13th July to 19th July 2018 which had ‘Income Majors’ on the front cover and the Article was entitled ‘In the genes’ and appeared on Page 16. If you are a subscriber to the Magazine then I suggest you go onto the online version and do a search for the article because it is well worth reading. Having said that I have reproduced a few sections of the text here so this will give a good flavour of what is in it.

The starting paragraph is based on some Research that had been done which suggested that Investment Performance was related to our genetic make-up (presumably intelligence levels and Chris mentions the genetic factors that increase our potential Educational Attainment) and that factors such as ACTUAL Educational Attainment, Income Levels and inheritance had less influence. So this suggested that our genes predict how well we save and invest and further on in the article he mentions that such Genetic Factors explain about a third of our Investment Results; and I take from this that at least a part of the other two-thirds is down to how we manage our Portfolios in terms of things like Running Winners, Chopping Losers, Averaging Down at the right time, Avoiding AIM Garbage, TopChopping, Risk Management, Hedging, etc. And of course another chunk of that two-thirds will be down to pure dumb Luck (but if we control as much as possible of the other stuff then the Luck is less of a hindrance and of course sometimes we will get Good Luck which is the sort I like !!).

Chris goes on to say:

“But what’s the mechanism? Intelligence is only part of the story. Mark Grinblatt at the University of California in Los Angeles has found that more intelligent investors do only slightly better than less smart ones. One reason for this is that investors who think they are clever become overconfident and so waste money by trading too much or by thinking they are smart enough to spot good but expensive fund managers.”

One of the implications from this last bit is that choosing the lower Cost Fund Managers or using Passives such as Trackers and ETFs (Exchange Traded Funds - see my ‘Funds’ page for more details) could actually result in better Returns or at least it suggests that hunting for the ‘Best’ Fund Managers is not necessarily a worthwhile exercise in terms of the effort and time involved. I am sure the many proponents of ‘Passive’ Investing will totally agree with this viewpoint.

“This corroborates Warren Buffett’s claim that ‘investing is not a game where the guy with the 160 IQ beats the guy with a 130 IQ’. Instead, he believes it is character traits such as self-discipline that matter. This, of course, is consistent with Professor Barth’s finding; it might be that self-discipline has a genetic element and leads to higher educational attainment as well as higher savings and good investment performance.” (Professor Barth was one of the guys Chris Dillow refers to in the first paragraph).

Further down Chris talks about ‘Twin Studies’ (these are where Psychologists etc. do research based on sets of Twins and also where Twins have been separated early in life and look at the differences many years on to figure out how much is genetically inbuilt and how much comes from external influences - ‘Nature vs. Nurture’ and all that) from which they have found that people who are extrovert and ‘less masculine’ (that’s it, I am getting my Hormones done !!) tend to make better Investors and the main reason for this seems to be that they churn their Portfolios less (a common theme I see in so many of these kinds of Studies is that Buying and Selling too much is a major drag on our Investment Returns). 

I am a bit surprised that it is extroverts who seem to make better Investors - if I had to guess I would have thought it was the quiet mousey Librarian type who does well but perhaps their utter fear of taking on Risk holds them back. This is consistent with the next paragraph……

It has also been found that Inquisitiveness and Leadership tends to be traits of People who are happy to take on more Risk; and that People with greater self-control tend to Invest over longer time-horizons - I guess this ties up with the lower Churn ideas. Greater self-control makes me think that such People are not so driven by a need for ‘instant gratification’ and this makes sense because it is this desire for regular ‘thrills’ in the Markets which can encourage Short Term Trading rather than Long Term Investing and it is highly likely that most People are not very good at the Short Term stuff whereas if they could quell the need for the instant dopamine hit, they might actually be very capable Long Term Investors.

Further on Chris writes:

“Professors Cronqvist and Siegel found that genes explain much less of investors’ proneness to mistakes among those who had worked in finance. This is consistent with the possibility that people can learn to avoid mistakes. In fact, it might well be that one reason why the same genes predict both educational attainment and retirement wealth is that some people are better able to learn how to invest well than others.”

That is a useful finding - it seems to imply that we can learn particular ways to Invest that mean we will make less mistakes and therefore improve our Returns. I totally subscribe to this idea and it is fair to say that much of drivel I write in my Blogs is precisely about this quest to find ways of Investing in a more successful way and establishing Investing ‘Tricks’ that can help WD Readers and myself achieve better Returns. Of course the latter sentence suggests that having superior Genes for Learning stuff can be helpful and perhaps Einstein would have a bit of an edge there but I would suggest that pretty much anyone can learn this stuff if they apply themselves and I would say that focus and effort are more likely to get you success than simply having super high Intelligence but being lazy and not working hard to make your Investing a success.

I totally reject any idea that Investing is for ‘clever’ People or Super Brains or something - in fact, I know many People who come from very humble backgrounds and who have had Careers in manual type Jobs etc. who have become very successful Investors simply by working hard at it and cutting out the silly and avoidable mistakes. Without doubt I would say it is one of those rare activities in life where pretty much anyone can do it if they have the willingness to learn and the discipline to keep them committed to the task and the chore of the learning process. Of course having access to useful information like the right Books and stuff is important but if you are reading this then you have obviously found my Website and I am sure that could help at least a little bit (go to the ‘Useful Links‘ page as well to find loads of Websites from other experienced Private Investors).

Some futher Research that Chris talks about involved People having to follow some Experiments where the correct action was to do nothing. He writes the following text after mentioning what these Experiments entailed (note they were not particularly linked to Share dealing or Finance), but it is not necessary to know the precise details of what was involved so I won‘t repeat the text here:

“The rational thing to do here is nothing; because returns are random, seeing past returns tells us nothing about future ones. Very few subjects, however, did nothing. And some were especially likely to chop and change. These were those who believed that success is due more to individuals’ effort than to luck - those with what psychologists call an internal locus of control. Such people, says Professor Schumacher, find it difficult to do nothing and instead try to look for patterns and take control even where there are no patterns to be found and no control to take. This can be an expensive mistake if people pay to be active investors, for example by incurring extra dealing fees.” 

This of course plays to the ‘Churn’ theme and how over-trading can hurt our Returns. It is so important to ‘Run your Winners’ and without doubt, as I have said many a time, one of my biggest and most consistent mistakes over the years has been to Sell good Stocks too early.

His next paragraph talks about how an ‘Internal Locus of Control’ can actually have benefits despite the drawbacks mentioned above. In other research it has been found that if you have a strong belief that your success is down to you and something within your control, then you are likely to work harder and with more commitment which increases the likelihood that you will be successful. To a large extent I think I agree with this although I do admit that Luck plays a big part in our Investing success or not and it is one of those things where “The more I practice, the luckier I get.”

He finally closes with this paragraph:

“The point here is that our investment performance is to some extent shaped by character traits via mechanisms of which we might not be wholly aware. As investors it pays therefore to know ourselves and our limits. As Mr Buffett’s colleague Charlie Munger has said, we must know the edge of our own competence.”

By ‘the edge of our own competence’ I take this as meaning that we must identify our own Weaknesses when it comes to Investing and we then need to look for ways that we can reduce the negative impacts of such Weaknesses and on the flipside we need to ‘play to our strengths’. Sometimes we cannot eliminate certain personality traits that add up to a Weakness but we can find ways to lower their impact on our Returns or to put more weight on things we do well so that the Weaknesses do relatively little damage.

I thought this was a really good Article and to me there are 2 main points that stand out. Firstly it is clear that you don’t need to be hyper-intelligent to Invest well and that anyone with ‘normal’ levels of intelligence will be able to do it and secondly that bad habits like tinkering too much with our Portfolios can hurt our Returns. This latter point is about discipline and being very self aware in terms of what our behaviour tends to be like and where we can identify failings in how we do things, it is worthwhile creating Rules that enable us to avoid making errors. This is very much the concept of a ‘Ulysses Pact’ which is the principle that in Greek Mythology (or whoever’s Mythology it was), Ulysses got his crew to tie him to the Mast of his Ship so that he could experience the wonderful songs of the Sirens but without being killed off by them (they were real Man-eaters apparently - a bit like Nelly Furtado but probably not Canadians).

I see plenty of evidence everyday that just about anybody can Invest well as long as they apply themselves to the challenge and have the necessary discipline to follow things through and have Rules to help them do this. It is essential to focus on the details and put in the effort to succeed - it is equally obvious to me that most People who fail simply don’t apply themselves with enough commitment to the task and they take the lazy way out of just skimming headlines and not getting stuck into the nitty-gritty - you simply cannot be lazy and expect to be successful at Investing.

And I cannot stress enough how much I believe that just about anyone can succeed at Investing as long as they put the effort in and are prepared to apply themselves (that‘s why I have repeated it at least 3 times in this Blog !!). This particularly applies to Beginners and I want to really strongly get the message over that it is not something only for Brain-Boxes and that you should never feel you are inadequate or not up to the challenge - believe in yourself, you are fully capable of being a very successful Investor.

In the ‘Related Blogs’ section below I have tried to include a selection of Blogs I have bashed out over the past few Years which are very much related to the Psychology type stuff I have talked about and also to how we can manage our Portfolios to cut out mistakes and improve our Results.

Cheers, WD.


Related Blogs:
These Blogs are very much about Psychology:

http://wheeliedealer.weebly.com/educational-blogs/what-is-your-edge

http://wheeliedealer.weebly.com/educational-blogs/beware-of-opinion-it-will-give-you-a-nasty-bite-on-the-bum

This next one is Part 3 but if you scroll right to the bottom there are links to the first two Parts:

http://wheeliedealer.weebly.com/educational-blogs/the-psychology-of-the-topchop-part-3-of-3

This one is similar but this time with links to the other bits at the top:

http://wheeliedealer.weebly.com/educational-blogs/maybe-were-not-in-control-after-all-part-3-of-3

And these Blogs are to do with methods/techniques for managing our Portfolios better:

http://wheeliedealer.weebly.com/educational-blogs/the-wheeliedealer-approach-to-position-sizing-part-1

http://wheeliedealer.weebly.com/educational-blogs/the-wheeliedealer-approach-to-position-sizing-part-2-stocks

http://wheeliedealer.weebly.com/educational-blogs/where-are-you-on-the-trader-investor-spectrum-part-1-of-2

http://wheeliedealer.weebly.com/educational-blogs/where-are-you-on-the-trader-investor-spectrum-part-2-of-2

http://wheeliedealer.weebly.com/educational-blogs/pin-the-tail-on-the-monkey-musings-on-portfolio-management-part-1-of-2

http://wheeliedealer.weebly.com/educational-blogs/pin-the-tail-on-the-monkey-musings-on-portfolio-management-part-2-of-2