The individual investor
Most of us have heard of Malcolm Gladwell’s popularization of the ‘Ten-Thousand-Hour Rule’ for complex activities. His conclusion is that in cognitively demanding fields ‘there are no naturals’. What this means is that a rooky chess player, no matter what his innate talent, will not play at the grand master level until he has accumulated years of practice and experience.
The general rule seems to be that the more demanding the activity, the more practice and experience play a role. Apparently there has been a prodigious amount of research carried out since the original study published by Herbert Simon and William Chase some forty years ago which concluded that there were no ‘instant experts’ in chess.
At first blush, this conclusion may seem daunting for individual investors. Investing is no doubt a particularly complex and demanding field. There will be no instant experts in investing. As well, being so demanding, it is a field where experience plays a huge role. However, years of exposure to investing are not enough. It seems something more is required. The good news is that with proper application, we individual investors can learn the skills to be highly successful. It will just take time.
The experts on Wall Street
The funny thing is that individual investors often believe that the ‘professionals’ on Wall Street have superior expertise. And, that there is no way individuals can survive that kind of competition.
In a lecture given by Benjamin Graham on November 15, 1963 at the Town Hall, St. Francis Hotel, he commented on predictions saying: “I would like to point out that the last time I made any specific stock market predictions was in the year 1914, when my firm judged me qualified to write their daily market letter, based on the fact that I had one month’s experience in Wall Street. Since then I have given up making predictions.” (Graham, The Intelligent Investor 1963) p7
This sweet little anecdote raises an interesting question. Even recent graduates working on Wall Street are considered to have professional expertise. If we dig deeper it becomes more interesting. We know, for example, most money managers underperform the indexes. Very simply, years of exposure on Wall Street do not necessarily prove expertise.
The reality is that success on Wall Street is often measured by assets under management (AUM) not by investing expertise. When I read or read of opinions expressed by someone on Wall Street I often wonder what the documented investment track record of the ‘expert’ is. A recent university finance graduate will have no ‘expertise’, as Ben Graham admits for himself in 1914. Long-time denizens of Wall Street with bags of AUM may run an index fund or put their clients in index or other kinds of ETFs but may not have high level skills to develop and manage a portfolio of common stocks.
Anders Ericsson and Robert Pool have told us in their book Peak: Secrets from the New Science of Expertise that focused training through ‘deliberate practice’ can lead to exceptional skill levels. (Ericsson & Pool, 2016)
In a paper written titled ‘The Making of an Expert’ in the Harvard Business Review, July–August 2007 Issue, by K. Anders Ericsson, Michael J. Prietula, and Edward T. Cokely the authors look at this issue. Read the paper.
The authors summarize their conclusion:
“The journey to truly superior performance is neither for the faint of heart nor for the impatient. The development of genuine expertise requires struggle, sacrifice, and honest, often painful self-assessment. There are no shortcuts. It will take you at least a decade to achieve expertise, and you will need to invest that time wisely, by engaging in “deliberate” practice—practice that focuses on tasks beyond your current level of competence and comfort. You will need a well-informed coach not only to guide you through deliberate practice but also to help you learn how to coach yourself. Above all, if you want to achieve top performance as a manager and a leader, you’ve got to forget the folklore about genius that makes many people think they cannot take a scientific approach to developing expertise. We are here to help you explode those myths.” (emphasis added)
The term they use “deliberate practice”, has a very specific meaning:
“To people who have never reached a national or international level of competition, it may appear that excellence is simply the result of practicing daily for years or even decades. However, living in a cave does not make you a geologist. Not all practice makes perfect. You need a particular kind of practice—deliberate practice—to develop expertise. When most people practice, they focus on the things they already know how to do. Deliberate practice is different. It entails considerable, specific, and sustained efforts to do something you can’t do well—or even at all. Research across domains shows that it is only by working at what you can’t do that you turn into the expert you want to become.” (emphasis added)
The authors conclude: “Before practice, opportunity, and luck can combine to create expertise, the would-be expert needs to demythologize the achievement of top-level performance, because the notion that genius is born, not made, is deeply ingrained.” The authors’ conclusion is that genuine expertise can be learned and that we can forget the folklore about genius. This is a hopeful conclusion that I certainly agree with.
My deliberate practice
When I first started savings for retirement I put all our family savings in an all-stock mutual fund. I also opened a brokerage account in which I could practice investing. This was not a mad money account in which I hoped to make a fast buck. It was a serious account to try to learn real investing. The amount of money in this account was high enough that it had my serious attention, but not so high that if I blew it we would be badly hurt. During this period I did a lot of reading about investing. After ten years ‘practice’ I sold the mutual fund and put all our family savings into a discount brokerage account that I managed myself.
I have never had an investment advisor. From the beginning I always wanted to be completely self-reliant. Anders Ericsson et al suggest using a coach. I don’t think a coach is necessary for investing. A coach can ensure the practice is deliberate and that the proper technique is used. But, I believe you can learn a great deal about investing from reading; essentially as much as you need to know. This is certainly what I have done. Beyond learning from others, the only real path to becoming an expert in investing is real world experience.
It doesn’t take a genius
Let’s come back to Malcolm Gladwell’s observation that ‘there are no naturals’ and that expertise in a complex endeavor can only be obtained by years of practice.
The good news is that to become an investing expert an individual doesn’t need to be a born natural. In a speech in 1974, Ben Graham remarked that investing did not require genius: “What it needs is, first, reasonably good intelligence; second, sound principles of operation; third, and most important, firmness of character.” (Lowenstein, Buffett, The Making of an American Capitalist. 1995,2008) p160.
What I take from this is that the deliberate practice must be aimed at producing ‘sound principles of operation’. For posts dealing with sound principles of operation see here.
Individual investors can learn how to invest very successfully. But, highly successful investors are not born as such. They become successful investors through deliberate practice.
For a deeper read about learning how to invest take a look at my post titled How to become a skilled investor
Some other material in the Motherlode may also be of interest:
21.02 The bitterest way to learn
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