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by
Gautam Baid
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January 1 - January 22, 2022
Income Statement (Profit and Loss Account) Analysis
Cash Flow Analysis
Return Ratios Analysis
Operating Efficiency Analysis
Balance Sheet Analysis
Management Analysis
Munger’s Psychological Checklist of the Standard Causes of Human Misjudgment
CHAPTER 15
JOURNALING IS A POWERFUL TOOL FOR SELF-REFLECTION
If most of us remain ignorant of ourselves, it is because self-knowledge is painful and we prefer the pleasures of illusion. —Aldous Huxley
The best investors make a habit of putting procedures in place, in advance [emphasis added], that help inhibit the hot reactions of the emotional brain. —Jason Zweig
Writing Is a Medium for Increased Self-Awareness, Understanding, and Happiness
Stephen King says, “Writing is magic, as much the water of life as any other creative art. The water is free. So drink.”3
CHAPTER 16
NEVER UNDERESTIMATE THE POWER OF INCENTIVES
If you want to persuade, appeal to interest not to reason. —Benjamin Franklin
My main life lesson from investing: self-interest is the most powerful force on earth, and can get people to embrace and defend almost anything. —Jesse Livermore
CHAPTER 17
ALWAYS THINK ABOUT THE MATH, BUT AVOID PHYSICS ENVY
Not everything that counts can be counted, and not everything that can be counted counts. —Albert Einstein
In his 2005 letter to investors, Buffett wrote, “Calculations of intrinsic value, though all-important, are necessarily imprecise and often seriously wrong. The more uncertain the future of a business, the more possibility there is that the calculation will be wildly off-base [emphasis added].”
Thinking Forward and Backward
Here are some of Munger’s thoughts on the subject:
“Think forwards and backwards—invert, always invert.” “Many hard problems are best solved when they are addressed backward.” “The way complex adaptive systems work and the way mental constructs work is that problems frequently get easier, I’d even say usually are easier to solve, if you turn them around in reverse.”9
In his
“Practical Thought on Practical Thought,” Munger took up a case involving the turning of $2 million into $2 trillion in 150 years.
CHAPTER 18
INTELLIGENT INVESTING IS ALL ABOUT UNDERSTANDING INTRINSIC VALUE
It’s Owner Earnings That Count
Buffett defined owner earnings in his 1986 letter as follows: “(a) reported earnings plus (b) depreciation, depletion, amortization, and certain other non-cash charges … less (c) the average annual amount of capitalized expenditures for plant and equipment, etc. that the business requires to fully maintain its long-term competitive position and its unit volume. (If the business requires additional working capital to maintain its competitive position and unit volume, the increment also should be included in (c).)”1
Some Thoughts on Value Traps
CHAPTER 19
THE THREE MOST IMPORTANT WORDS IN INVESTING
For the investor, a too-high purchase price for the stock of an excellent company can undo the effects of a subsequent decade of favorable business developments. —Warren Buffett
I conceive that a great part of the miseries of mankind are brought upon them by the false estimates they have made of the value of things, and by their giving too much for their whistles. —Benjamin Franklin
Quality Increases the Margin of Safety Over Time
If you plan to hold a share for the long term, the rate of return on capital it generates and can reinvest at is far more important than the rating you buy or sell at.
Since stock markets typically value companies on the not unreasonable assumption that their returns will regress to the mean, businesses whose returns do not do this can become undervalued. Therein lies our opportunity as investors. —Fundsmith Equity Fund Owner’s Manual
a June 2013 research paper by Credit Suisse, the authors provided strong evidence supporting Buffett’s philosophy of investing in successful companies with an established track record of delivering high owner earnings in relation to invested capital.
These results tell us a few things:
Operating performance is not random. Had it been random, all probabilities would have been closer to 25 percent. We find little evidence of mean reversion.
The best-performing firms had a 51 percent probability of remaining among the best-performing firms, and the worst-performing firms had a 56 percent probability of remaining the poorest performers. 3. Great businesses tend to remain great, or they become good businesses (combined probability of 79 percent). There was only a 9 percent chance that a great business would end up in the quartile of poorest performers. 4. Poor businesses tend to remain poor, or they become slightly better but still remain below average (combined prob...
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The authors of the study, Bryant Matthews and David Holland, conclude with the following summary: Corporate profitability is sticky. Wonderful companies tend to remain wonderful, and poor companies tend to remain stuck in the mud. Our empirical evidence suggests that sustainable corporate turnarounds are difficult to execute. … Companies in defensive industries exhibit more stickiness in corporate profitability than firms in cyclical industries. However the persistence in performance remains highly significant and thus the reputation of the business tends to remain intact regardless of
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The key finding of this study was that, despite being recognized as successful businesses, the Q4++ category businesses continued to deliver outstanding investment results over the long term. But if markets were “efficient,” this should not have happened. The prices of such stocks should have been bid up to the point at which buyers could not earn exceptional returns. But they did. Markets systematically underprice quality over long time periods.
It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price. Charlie understood this early; I was a slow learner. But now, when buying companies or common stocks, we look for first-class businesses accompanied by first-class managements.10 High quality always beats a bargain over time. Although there are certainly exceptions, in the long run, bargains never outperform solid investments. This simple yet profound principle can be applied to virtually every area of life. Crash diets, predatory pricing, dishonesty, and shortcuts can work well for a while,
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CHAPTER 20
INVESTING IN COMMODITY AND CYCLICAL STOCKS IS ALL ABOUT THE CAPITAL CYCLE
The Significance of Empathy in the Investing Discipline
SECTION IV
PORTFOLIO MANAGEMENT
