I watched Charlie Munger’s at the Daily Journal Annual Meeting. As usual, Munger doesn’t pull any punches. One piece from Munger’s opening statement stuck out because it fits with a book I finally started reading called Concentrated Investing.
I think it’s safe to say that broad allocation strategies are not only the accepted norm but anything not in a broadly diversified wrapper is looked down upon these days. Which is both good and bad. Good because most people are better off broadly diversified, earning market returns. Bad because doing anything not seen as popular might turn the few people off who could actually handle a concentrated strategy.
What exactly are they handling? Well, the more concentrated the portfolio, the more volatile it’s likely to be compared to average market volatility and the more likely (and more often) it deviates positively or negatively from a market return. The combination of those two — the potential to underperform the market and higher volatility — is why a broadly diversified option is best for most people but also so enticing for anyone who can stomach the wilder ride.
Munger prefers an extremely concentrated, no turnover portfolio focused on a few huge opportunities. Huge opportunities like that require a lot more dedication, intelligence, and luck than most expect. However, you don’t need Munger’s big brain to come up with a simple process of identifying smaller opportunities that pop up more often. The right temperament and a higher turnover rate than zero are all that’s needed.
Here’s what Munger had to say:
I had a grandfather who was very useful to me, my mother’s grandfather, and he was a pioneer. And he came out to Iowa with no money, but youth and health… And he stayed there and he bought cheap land and he was aggressive and intelligent and so forth. Eventually, he was the richest man in the town and owned the bank — and highly regarded and a huge family and a very happy life.
And he had the attitude — having come out to Iowa when the land was not much more than $1 an acre and having stayed there until that blacktop soil created the modern rich civilization and some of the best land in the world. His attitude was that a favored life like his — when you’re located in the right place — you just got a few opportunities if you live to be about 90. And the trick in coming out well was seizing a few opportunities that where your fair share that came along when they did.
And he told that story over and over again to the grandchildren around him all summer. And my mother, who had no interest in money, remembered the story and told it to me.
But I’m not my mother’s natural imitator. And I knew grandpa was right. And so I always know from the very first, when I was a little boy, that the opportunities that were important, that were going to come to me, were few. And the trick was to prepare myself for seizing the few that came.
This is not the attitude they have at a big investment counseling thing. They think that if they study a million things, they can know a million things. And of course, the result is almost nobody can outperform an index.
Whereas I sit here with my Daily Journal stock, my Berkshire Hathaway stock, my holdings in Li Lu’s Asian fund, my Costco stock and, of course, I am outperforming everybody. And I’m 95 years old. And I probably may never have a transaction.
And the answer is I’m right and they’re wrong. And that’s why it’s worked for me and not for them. And now the question is do you want to be more like me or more like them?
The idea of diversification makes sense to a point. If you don’t know what you’re doing and you want the standard result and not be embarrassed, why, of course, you can widely diversify. Nobody’s entitled to a lot of money for recognizing that because it’s a truism. It’s like knowing that two and two equals four. But the investment professionals think they’re helping you by arranging diversification. An idiot can diversify a portfolio or a computer for that matter.
But the whole trick of the game is to have a few times when you know that something is better than average and invest only where you have that extra knowledge. And then if you get just a few opportunities that’s enough. What the hell you care if you own three securities and JPMorgan Chase owns a hundred. You know, what’s wrong with only a few securities.
Warren always said that if you lived in a growing town and you owned stock in three of the best enterprises in the town, isn’t that diversified enough? The answer is: of course, it is. They’re all wonderful places.
And that “Fortunes Formula“, which got so famous, which was a formula to tell people how much to bet on each transaction, if you had an edge. And, of course, the bigger your edge, the more close the transaction was to a certain winner, the more you should bet. And of course, there’s mathematics behind it. But of course, it’s true. It’s perfectly possible to buy only one thing because the opportunity is so great and such a cinch, or only two or three.
So the whole idea of diversification, if you’re looking for excellence, is totally ridiculous. It doesn’t work. It gives you an impossible task. What fun is it to do an impossible task over and over again. I find it agony. And just who would want to do it? And I don’t see why.
- The Greatest Investor You’ve Never Heard Of: An Optometrist Who Beat The Odds To Become A Billionaire – Forbes
- Who is On the Other Side? (pdf) – M. Mauboussin
- Transcript: Charlie Munger Speaks with Becky Quick – CNBC
- Munger: Teaching People to Trade Stocks is Like Starting Them on Heroin – Evidence Investor
- Different Kinds of Stupid – M. Housel
- Nobody Wants to Invest in Your Sh*t – M. Faber
- Edges That Won’t Go Away – A Wealth of Common Sense
- Your Friends’ Social Media Posts are Making You Spend More Money, Researchers Say – Washington Post
- The Distrust of Intellectual Authority – Farnam Street
- A Different Kind of Theory of Everything – New Yorker