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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