Warren Buffett once said that people either get this Rule One type strategy right away or they never do. Paul Brown, a book critic for the New York Times, falls into the latter category. His review, published in the NY Times in April 2010, basically argues the book is ‘intriguing’ but ‘almost nothing here registers as new.’
This sort of passive aggression reminds me of a story Dr. Jonas Salk told me a long time ago when I was investing in a business he had an interest in. I was at his home in La Jolla, California, for dinner and Dr. Salk was explaining how critics react to a radical new view of anything. He said, “When I was beginning work on a cure for polio, I learned that when you start something new you’ll go through three phases of interaction with your critics. The first phase happens when you begin to do something most people don’t do. In my case, I believed it was possible to produce a cure for polio with a killed virus. It had been tried before by other researchers unsuccessfully so critics told me I was throwing away my career by wasting my time and funding on something that everyone knew wouldn’t work. So the first phase for your critics is when they say, ‘It can’t be done.’”
Dr. Salk went on, “But I believed I had found a way to make it work. I kept at it and trials began to show some good results. Then the critics changed to Phase Two. They said, “Well, okay you have some data but really it’s just trivial and won’t make any difference in the long run.” So the Second Phase for your critics is to say, ‘It’s trivial.’”
Dr. Salk smiled mischievously. He said, “Then I was successful and they went to the Third Stage. They said, ‘We knew it all the time.’”
I think this may be the evolution of Rule One investing critics. Certainly, the greatest Rule One type investors – Buffett, Graham, Lambert, Ruane and many others – were once regularly blasted by critics for being out of touch, over the hill or just plain lucky. One of the most enduring books on investing ever written – which I dislike so much I won’t even write the title – claims Mr. Buffett is no more skilled at investing than a monkey picking stocks randomly and that his apparent skill and high rates of return are the result of a “statistical abnormality” rather like a guy who tosses a coin and gets 100 heads in a row.
Today, however, many experts agree that the market often prices businesses irrationally and if you can buy a business when its stock is priced irrationally low, as Rule One investors attempt to do, you position yourself to potentially make a significant rate of return. (For an explanation of why that is the case, read Yale professor Robert Shiller’s Irrational Exuberance.) Today, I believe few experts would go so far as to say Rule One-type investing is wrong and won’t work.
What they will say is what Paul Brown said. That we’ve heard it all before. That we know that already. That it’s trivial. In Dr. Salk’s terms – he is in Phase Two.
The truth is – we haven’t heard it all before really. Most people I talk to are shocked at the idea that one should buy a stock and then hope the price goes down. They can’t believe they’ve heard me correctly. It is a completely counterintuitive concept and Mr. Brown shrugs it off like it’s the heart and soul of value investing. But in fact, it’s everything. If you can’t do it… If you have done the appropriate analysis and valuation of a company you have determined to be “wonderful” and then can’t buy a piece of it and be ecstatic that the price continues to drop, then you really don’t know what you are doing when it comes to investing.
This simple but fundamental gut-check can tell you more about whether you are doing your homework and investing or just gambling by investing in stocks than anything else I can think of. Yet, really now, who does it? A handful of great investors. I imagine that everyone else, and I mean almost every single mutual fund manager and pension fund manager, experience the exact opposite emotion when their stock picks drop in price. The press rush to judge the manager as having lost his touch. His investors scream and then bail. And if his stock picks keep dropping, the last thing he will feel is ecstatic. He may feel like vomiting maybe, or jumping off a ledge, but ecstatic? Not so much.
Don’t believe the Phase Two critics who try to trivialize the central core of my approach to great long-term investing. There is nothing Phase Two about it.. Learn it, consider doing it. And if and when you start making money, watch the critics move on to Phase Three and tell you they knew it all the time.
Now go play!
- Phil Town
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