When it comes to investing, follow the herd at your peril
What’s an Intelligent Investor?
We have an investing “bible” in our house: Benjamin Graham’s The Intelligent Investor. We aim to read it at least once every 2 years. It gives me the only definition of “Investor” (vs. “Speculator”) that I accept. Graham states “An investment operation is one which, upon thorough analysis, promises safety of principal and an adequate return. Operations not meeting these requirements are speculative.”
In my experience, most people – even those in the financial industry – are speculators, not investors. The key factors being thorough analysis, focus on principal return, and an adequate (not necessarily astronomical) return. Ask most people and they could not tell you what is their adequate return!
These fiercely held principles drive my decision-making. It’s not easy. Graham’s book goes on to essentially show us how most of us suffer from herd mentality when it comes to financial activities. The market is up – BUY! The market is down – SELL! The first time I read this, I felt like my pants were pulled down. He’s absolutely right – I had done this very same thing, many times in my life.
Engaging the Slow Brain and Avoiding Herd Mentality
And these truths go beyond financial activities. This is – by its very definition – what happens with trends. I remember buying clothing in high school because everybody else was getting it – not because it really fit my style. Who amongst us can’t find those examples? Reading this book sparked a deep, lasting curiosity in how the human mind works and is influenced in decision- or opinion-making.
So it’s not surprising that when I finally read Thinking Fast and Slow by Daniel Kahneman last year, my brain was on fire. It instantly became one of my favorite books. At its essence, “Thinking Fast and Slow” shows us how the brain operates to adopt a herd mentality, and – more importantly – inspires us to recognize that process can be interrupted.
Kahneman talks about the slow brain and the fast brain, and to me – while there is much value in the fast brain – the real strength in life and the pursuit of one’s dreams comes from mastering the slow brain. Graham cautions deeply against the herd mentality of the stock market – and goes on to write a whole book on how to spot the gaps in analysis, communication, and paperwork to avoid speculative activities. It’s the effort putting into learning and studying a stock that allows you to adhere to Graham’s definition of an Intelligent Investor…and which also engages the slow brain.
Putting Graham and Kahneman to Work Together
Recently, I had the opportunity to put this to work – which, frankly, still requires me to go through a conscious process in my brain to do so – i.e. it’s not that my slow brain automatically engages to invest rather than speculate. Rather, I have to intentionally do it.
I am overweighted on a particular stock in my portfolio. Some of it was intelligence; some of it was laziness. It has had some very hot moments in the past few years, and some quite low moments.
Even my advisor would regularly encourage me to sell it. Yet I did not want to. Not because I was chasing a hot moment, but because I had done my research to know there were underlying strengths in the company. I had even applied some of Graham’s mid-20th century metric tests to it, and it came out strong. I was still also in a position where there was a safe return of principal, as Graham would advise.