Gavin Baker+ Your Authors @GavinSBaker Husband, Becky Painter. CIO, Atreides Management. Former PM, Fidelity OTC fund. No investment advice, views all my own. Dec. 01, 2019 5 min read + Your Authors

1) Presented with some trepidation: why believing I am in the top 1% of knowledge level on stocks I own is important to me. Simply said, feeling like my knowledge level is high on a stock helps me be rational when I am wrong and like many investors, I am wrong a lot.

2) And being rational when wrong is important to success in public equities, IMO. Less relevant in PE/VC where it is harder to take action when wrong and marks (being “wrong”) are infrequent. Perhaps a contributing factor to the “illiquidity valuation premium.”

3) I believe that in any career other than public equity investing, success can generally be predicted by multiplying intellect by work ethic by charisma with luck being a modifier to this expected outcome (and the most important factor).

4) However, with public equity investing, this equation breaks down. There are many brilliant, hard working, charismatic people who fail. In some ways, public equity investing seems harder for those with the most glittering resumes. There is a missing factor.

5) I believe the missing factor in this equation is the ability to be rational when wrong. All of our lives we are told that being wrong is shameful. It is hard for some people to admit when they are wrong and even harder for some to make good decisions when wrong.

6) This tendency is fatal in public equity investing, where most are wrong a lot and can take action when wrong (unlike PE/VC). I think investing success in public equities largely depends on finding a philosophy/system that helps one be rational when wrong.

7) As I noted in my earlier thread on this, Ned Davis perhaps said it best when he drew a distinction between “Being right or making money.” Wanting to be right is the most expensive habit an investor can have.

8) This is why I don’t think debates about investing philosophy are productive. There are many ways to succeed. Everyone has to find a philosophy that works for their own intellectual and emotional makeup, a philosophy that helps them be rational when wrong.

9) For me, feeling like I have factual mastery, that my knowledge level is in the top 1% of all investors on a given stock, is important to my ability to be rational when I am wrong. Not a philosophy per se, but a necessary condition for me.

10) When I am wrong and don’t believe I have a high knowledge level, then I rarely make good decisions. This is big part of why I have historically destroyed alpha in energy, industrials, financials – low knowledge level, wrong a lot, bad decisions when wrong.

11) I think this low decision quality when wrong is partially because I am so frustrated with myself when I am wrong, lose money and KNOW that it was because I did not do the work. This frustration makes it difficult for me to be rational.

12) Low decision quality also comes from the fear that if I was wrong because of something I could have known but did not know, what else do I not know about the stock? What other knowable but unknown facts are there? A particularly terrifying and upsetting thought.

13) This is why I’ve never had a large position in Chinese internet stocks despite studying them for years and making annual trips to China – there is no way I can convince myself I am in the top 1% of knowledge level.

14) @LibertyRPF suggested on Twitter – in response to my earlier Twitter thread on this topic – that “being able to change your mind or admit you’re wrong is a skill. Like a muscle, it has to be trained…”

15) “…Making public remarks increases the frequency at which we can train. It might seem easier all alone in the dark, but we train less. Most people by default see admitting they were wrong as a defeat…”

16) “…I think we should internalize that the goal is to be correct, and that any time we change our mind to something more correct it is a victory, not a loss. I want people to change my mind on things and seek that out…”

17) Said another way, intellectual humility and its attendant open mindedness to one’s own mistakes is powerful in investing, which is at some level a competition about who can have the most accurate understanding of the present and likely future state of the world.

18) I recognize that “top 1%” is at odds with intellectual humility.

Reality is that I make lots of mistakes on positions where I believe - rightly or wrongly - I am in the top 1%. But I do generally make better decisions post initial mistake when I believe I’m in the top 1%.

19) And at some level, investing is also all about finding the right balance between the arrogance to believe you have a correct variant perception vs. the entire market and the humility to admit when you are wrong. Conviction vs. flexibility

20) Umberto Eco is one of my favorite writers. His novel “The Name of the Rose” can be read as a meditation on this topic; on the importance of intellectual humility and the dangers of intellectual or moral arrogance.

“What do you fear most in purity? Haste.” So good!

21) William of Baskerville, the hero, is described as “moved as he was solely by the desire for truth, and by the suspicion - which I could see he always harbored - that the truth was not what was appearing to him at any given moment.”

Note Sherlock Holmes reference. Semiotics!

22) William later says “The Devil is the arrogance of the spirit, faith without smile, truth that is never seized by doubt.” And yet William constantly struggles with his own intellectual vanity and ego.

23) Adso’s last words about William were “I pray always that God received his soul and forgave him the many acts of pride that his intellectual vanity had made him commit.”

Arrogance vs. humility. Conviction vs. flexibility. 😃

24) Also in case anyone picks up the book, the first 100 pages are a tough slog. But then it becomes an awesome murder mystery/coming of age story set in medieval Italy. Highly recommend. Also a good movie with Sean Connery in his prime.

25) Presented with trepidation as I generally don’t love discussions of process and philosophy. Outcomes matter most.

As one of my best friends says, “There are only two things in investing. Numbers and excuses. And if you don’t have the 1st, no one cares about the 2nd.” 😀

You can follow @GavinSBaker.


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