Source: Red and Green
1. Sensitive to numbers
To be a successful investor you must be digitally sensitive. While complex calculations are rarely involved in investment decisions, successful investors have a “feel” for numbers and probabilities.
One of the important manifestations of being sensitive to numbers is understanding financial statements. Accounting is a business language, and great investors are familiar with statements because they show them how a company has performed in the past and in the future.
Familiar with financial reports, there are two goals. The first is to convert the boring numbers of financial reports into free cash flow that reflects the essence of the company’s value.
A second goal of familiarity with financial reporting is to understand the link between a company’s strategy and value creation.
2. Understand value (present value of free cash flow)
Financial markets have undergone tremendous changes over the past three decades. Looking back at what has changed in the investment world and what hasn’t, you will find that most things have changed. The half-life of listed companies is about 10 years, and from a long enough time span, investable companies are switching like a revolving door.
However, one thing remains constant: the present value of future cash flows, discounted, determines the value of an asset, whether it be stocks, bonds, or real estate. Of course, assessing present value is more difficult for stock investors, because the three elements of value: cash flow, time and risk are all determined by expectations in stock investing , while in bond investing cash flow and time factors are pre-determined by the contract.
3. Properly assess the company strategy (i.e. how the company makes money)
This capability has both micro and macro aspects.
On the micro side, great investors have a deep understanding of how a company makes money, and they take a close look at how the entire company operates.
At the macro level, it is an understanding of the sustainability of a company’s competitive advantage. Only a company with a competitive advantage can make money, and its competitive advantage is financially reflected in that the return on investment is higher than the opportunity cost of the capital invested.
Great investors understand the unique position of the invested company in the industry. The invested company should preferably have a “defensive advantage” that prevents competitors from continuing to enter. The sustainability of this advantage is an important consideration for company valuation. .
4. Know what to really compare
Comparisons abound in the investing world: stocks versus bonds, active versus passive, value versus growth, one stock versus another, and investors make comparisons every day.
But what really differentiates the average investor from the great investor is whether it compares fundamentals and expectations. A company’s future performance, such as sales growth, revenue margins, and investment returns, reflects the company’s fundamentals; expectations are the market’s current collective estimate of the company’s future performance, directly reflected in the stock price.
To make money in the market, you must be able to identify “mistakes” in the market’s expected pricing. Most investors do not have this ability, because the investment behavior of most people is basically oriented to chase after buying, and the fundamentals become worse and sell. So the unique ability of great investors is not only to understand that fundamentals and expectations are two different things, but to be able to compare them to find the gaps between the two.
5. Think in probabilities
Investing is an art of probability. The entire thinking frame of a great investor is based on probability and looks for investment opportunities in the market that result from a mismatch between price and probability.
While investment results are important, great investors focus more on the decision-making process, because a good result does not mean a good decision-making process. Because of the existence of probability, good decisions can sometimes lead to bad results, and bad decisions can lead to good results.
But in the long run, with the right decision-making process, even with occasional bad outcomes, the “overall results” of an investment can be satisfactory. Therefore, it is crucial to learn to focus your energy on the investment decision-making process and to accept the occasional bad investment outcome. In addition, it takes a long enough time and number of investment decisions for probability to come into play.
Another great thing about great investors is that they understand that it doesn’t matter how many times they’re right and wrong, what matters is how much gain each time they’re right (minus the losses from being wrong). This is again against “human nature”, because human nature is averse to mistakes and losses, but great investors abandon “human nature” and focus not on right or wrong, but only on the final value of the portfolio in hand.
6. Update your opinion
Opinions are hypotheses to be tested, not set principles.
Most people like to keep their opinion, even as the facts have begun to show that this opinion may have “failed”. Because people are born with a “prejudice” that protects their opinions.
In order to protect their opinions, most people tend to look for facts that support their opinions (while ignoring unfavorable information), or to interpret neutral facts in a direction that favors their opinions. This act of protecting viewpoints prevents constant thinking about events and avoids behavioral changes based on new changes.
But great investors do the opposite of human prejudice: They actively seek out information, opinions, and facts that move to the left of their own, and resolutely update their views when there is solid evidence that they are wrong. The seemingly easy behavior is actually difficult for ordinary people to do.
7. Understand the existence of behavioral biases
The ability to avoid behavioral biases consists of three parts, one part innate, one part deliberate training, and the last part is learned experience from the environment. Great investors have more control over their biases than the general public, actively learning about them and finding ways to manage them, honing them in the investing environment.
8. Distinguish information from impact
Prices themselves are very useful information in financial markets, representing expectations for future company performance. However, investment activity itself is not a strict science, it is a social activity in nature, and therefore prices assume the dual role of information and influence.
Take the dot-com bubble that happened in history as an example. As the price of technology stocks rose, relevant investors enjoyed paper wealth. But this phenomenon will have an impact on investors who have not yet bought into technology stocks, making some of them “unable to resist the temptation” to buy.
This creates a “virtuous circle” for stock prices. Therefore, the rapid rise of technology stocks at that time was not driven by investors’ crazy confidence in the company’s prospects, but more driven by the audience’s fear of missing out on money-making opportunities.
But great investors have the ability to resist that influence, which manifests socially as not caring what others think of you. This is another characteristic of “anti-humanity”. Many good investors do exhibit this paradox: excellent investment decisions, but a headache at the social level of life.
Successful investors take different viewpoints into account when formulating a strategy, and then eventually come up with a set of reasonable but consensus different strategies. Everyone is right most of the time, but once a mistake occurs, it takes an extremely strong psychological capacity to make a “bet” decision with everyone.
9. Understand the importance of position size
The construction of a general investment portfolio goes through the following process:
First, clarify the strategy execution method (hold it in a fixed period until the maximum profit is achieved or roll the bet with the principal and profit);
Then look for a portfolio of investment opportunities (a set of short-term opportunities, a set of long-term opportunities, or both);
Finally, consider the various constraints that the portfolio needs to face (liquidity, cash withdrawals and leverage that may occur during the investment period, etc.).
Positions can only be effectively allocated if the above three questions are fully answered. The difference between long-term profitable investors and ordinary investors is that the former understands that rational allocation of positions is as important to long-term profitability as identifying investment opportunities.
10. Read
Every year, Columbia Business School sends students to Omaha, where Berkshire is located, to have a “chat” with alumni Buffett. When they come back I will ask about their harvest. Almost all students say with disbelief that Berkshire’s bigwigs recommend that they read at least 500 pages a day.
Munger said that his favorite is a famous quote from Einstein: “Success comes from curiosity, concentration, persistence and introspection, and introspection refers to the ability to change one’s own inherent thinking.” Reading can be said to condense the above successes essentials of the elements. Munger went on to say, “There’s not a single successful person I know who doesn’t keep reading.”
And great investors generally have three main reading habits.
The first is to make reading a priority. Buffett says he spends 80% of his working day reading.
Secondly, the content of reading is all-encompassing, not only limited to the field of business and finance, but let your own curiosity decide what to read. Because ideas or information from other fields can sometimes inadvertently turn into good investment references.
Finally, think critically as you read and find out where you differ from the author’s point of view. Keep your mind open by constantly thinking about and comparing viewpoints that differ from your own.
Research has found that successful people read more for self-education than entertainment. Reading is especially important for investors because investing requires a synthesis of information and ideas from multiple sources in order to continually find profitable opportunities.
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