Saturday, February 25, 2017

Why I cannot be an entrepreneur and why I blame the stock market for it

I published this post on the Medium on February 24. You can follow me on Medium here.

The government is encouraging me to do it. It’s all over the Internet. All the self help blogs are telling me to go for it. Books are being written trying to convince me that it’s the only way to go. Medium is recommending me articles that are cheering me on. It seems like everyone these days wants me to become an entrepreneur.

However, I can’t become an entrepreneur. When I tell this to people, they try to convince me that I have what it takes. They try to reassure me that I have the ability. Gee. Thanks! But I don’t doubt my ability. I just can’t do it. Why, you say. Well, I blame the stock market.

I have been investing, if you can even call it that for the initial years, for over nine years now. I have learnt by making mistakes. I still make mistakes. Some I know of and some I don’t know of but will surely come to know of in the future. The mistakes are too many to mention in this post and discussing them in depth would be a digression anyway, but one of the most important things that markets have taught me is the concept of reward to risk ratio.

Source: Investopedia

I apply it to everything in life. I learnt the hard way to apply it to investments, but the rest followed naturally. Now I apply the concept of reward to risk ratio consciously to all the big decisions, and subconsciously to the small decisions. Work. Relationships. Everything. And this is exactly why I can never be an entrepreneur.

Over 95% of start ups fail. So, in the very least, by its very nature, it’s a high risk venture. But people who enter in this domain already know this. Still they do it. Because they are optimistic that they will succeed. Irrationally optimistic. They have to be. They pretty much don’t have a choice. If you enter an area where the odds are so hugely stacked against you, you need to be irrationally optimistic. And that’s what makes most start-ups fail. And that’s what makes the few who actually succeed, succeed.

Those who succeed can actually cause a paradigm shift. The payoff can be huge. Not only in terms of money, but in terms of contribution to society and progress of mankind. Now if the stock market offers me the opportunity to take a position where I have only 5% chance of succeeding but the payoff could be huge, would I take it? I have learnt the hard way to say no to such opportunities. But for the fun of it, let’s say yes, I will take such a bet. But would I bet my house on it? Hell, no! Hence, while I have huge respect for people who are willing to do this, it’s not for me. If anything, markets have taught me the importance of diversification and not putting all the eggs in one basket. And the Stock Gods do have their ways of knocking me down whenever I see overconfidence beginning to creep in. So quite happily, I would like to say pass. But done feel bad for me and my like. We certainly have a role to play. I like to call it entrepreneurship for non entrepreneurs. More on that another day.

Monday, February 13, 2017

This time it's different

“This time it’s different”. I bet these words have cost investors more money that any other since the inception of stock market. In fact, I would go out on a limb, and say that these words have probably lost investors more money than any wrong analysis or forecasts. These four simple words that make everything that we KNOW is wrong seem right. This time it’s different.

Market at historically overpriced P/E ratios? Company using non-GAAP or new accounting measures while reporting earnings? An overpriced IPO with very little cash flow? A business that you don’t understand but everyone says is critical to the “new economy”? Well, don’t worry dear reader. The answer to all the above questions is “This time it’s different”. I know you feel better already.

I consider myself to be a mostly rational, logical member of the human species. I am not easy to fool, at least in my opinion. But I must be an excellent salesperson, because every time I say these words to myself, I am able to justify to myself my every investment that I think is not quite right. 

Speaking for myself, I have learnt the hard way to watch out and be extra cautious whenever I find myself using these words. Of course, that’s only true when I am not using the five words that have probably lost investors even more money than these four words. “This time it REALLY is different”.

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Saturday, December 24, 2016

The Secret to being a Successful Investor

“If one negligently leaves the bath running with the baby in it, one will realize as one bounds up the stairs towards the bathroom, that if the baby has drowned one has done something awful, whereas if it has not one has merely been careless". I didn't say it. Thomas Nagel did. I just copied pasted it. Because it made me realize something. That this could be it!! After all these years of reading and learning and making mistakes (and repeating these steps again and again, though not necessarily in the same order!), I have quite accidently stumbled upon the secret to successful investing. The difference between success and failure. The answer is actually quite simple. Luck! Just plain ol’ simple dumb luck!

I know you are disappointed with the answer dear readers. But please bear with me. Just indulge me and read the above quote once again. What defines the magnitude of our mistake is not the nature of the mistake itself, but its consequences! Looking back at all the mistakes I have made in my investing lifetime (so far), I realize that I have been extremely lucky! Actually, I can hardly believe how lucky I have been. If all the mistakes that I have made had ended with the worst-case scenario, I doubt if I would have ever had the opportunity to learn from them. Or I would have learnt from them, but would certainly not have had the resources to implement my “learnings”. After all, there are just so many times you can lose your entire bankroll and start all over again.

So many times, we make the mistake of attributing our good luck to skill. And we attribute our bad luck to, well, bad luck. In fact, this phenomenon is so common, that there is a whole mental model about it. Self-serving bias.

“A self-serving bias is any cognitive or perceptual process that is distorted by the need to maintain and enhance self-esteem, or the tendency to perceive oneself in an overly favorable manner. It is the belief that individuals tend to ascribe success to their own abilities and efforts, but ascribe failure to external factors.” - Wikipedia

No matter what investing school you belong to, fundamental or technical, value or growth, there is a great amount of forecasting attached to it. Forecasting, by its very nature, involves uncertainty. And uncertainty involves probability. The easiest way to increase your odds of success is to reduce your odds of failure. And the simplest way to reduce your odds of failure is to learn from your mistakes and avoid repeating them in the future. Every little mistake ticked off results in increasing the odds of success. But like we said in the beginning, the magnitude of our mistakes is not defined by the nature of the mistakes themselves, but by their consequences. And this is exactly where luck comes in! What if the initial few mistakes all had dire consequences!

I believe I am becoming a smarter investor every year. Not because I am closer to finding any secret stock picking formula, but because with passage of time, I can now recognize mistakes that I have made in the past that I had never noticed before. And that, I believe, holds the key to being a successful investor.

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