Stan Druckenmiller once said, “Every great money manager I’ve ever met, all they want to talk about is their mistakes. There’s a great humility there.”
So what’s the benefit of constantly talking about their mistakes? For one, they embrace the inevitable.
Investing is just a long series of decisions where some end in gains and others end in losses. If you’re doing it right, the gains outweigh the losses in the end, hopefully, by a large enough margin that your goals are reasonably satisfied.
In other words, every investor makes mistakes. Those that don’t are lying. That’s the uncomfortable truth. Those that go on to be great investors, learn this through experience…and apparently love to talk about it.
Howard Marks, in his latest book, shared a great excerpt by Peter Bernstein which drives home the importance of this realization and why it matters:
After 28 years at this post, and 22 years before this in money management, I can sum up whatever wisdom I have accumulated this way: The trick is not to be the hottest stock-picker, the winningest forecaster, or the developer of the neatest model; such victories are transient. The trick is to survive! Performing that trick requires a strong stomach for being wrong because we are all going to be wrong more often then we expect. The future is not ours to know. But it helps to know that being wrong is inevitable and normal, not some terrible tragedy, not some awful failing in reasoning, not even bad luck in most instances. Being wrong comes with the franchise of an activity whose outcome depends on an unknown future…
The nature of uncertainty in the process makes being wrong inevitable because not only will you make mistakes, you can make the right decision and still lose money. So are you prepared for it?
Survival is about planning for the inevitable losses in advance. Following a few basic investing principles help with this.
Ben Graham introduced the idea of margin of safety decades ago as a way to embrace mistakes from the start. It’s as simple as leave room for error. He believed the possibility of being wrong should be factored into the price you pay for an investment. The idea is to pay a low enough price, so even if you’re wrong, you only lose a little.
When you combine it with diversification — spreading your money across multiple investments — if one turns out bad, it won’t be devastating. But Bernstein points out a secondary benefit:
In general, survival is the only road to riches. Let me say that again: Survival is the only road to riches… The riskiest moment is when you’re right. That’s when you’re in the most trouble, because you tend to overstay the good decisions. So, in many ways, it’s better not to be so right. That’s what diversification is for. It’s an explicit recognition of ignorance. And I view diversification not only as a survival strategy but as an aggressive strategy, because the next windfall might come from a surprising place.
You reap further benefits when you diversify. If some investments inevitably turn out worse than expected, the opposite could happen to others — some turn out better. In other words, you get unexpected opportunities.
Not a bad consolation prize for survival.
Mastering the Market Cycle
Peter’s Uncertainty Principle
Peter Bernstein: Embracing Surprise
Lessons on Risk From Peter Bernstein