“Q: How much does Charlie Munger – Warren Buffett’s right hand man, and a billionaire in his own right – worry when the share price of Berkshire Hathaway declines ?
“A: “Zero. This is the third time that Warren and I have seen our holdings in Berkshire Hathaway go down, top tick to bottom tick, by 50%. I think it’s in the nature of long term shareholding of the normal vicissitudes, in worldly outcomes, and in markets, that the long-term holder has his quoted value of his stocks go down by, say, 50%. In fact, you can argue that if you’re not willing to react with equanimity to a market price decline of 50% two or three times a century, you’re not fit to be a common shareholder, and you deserve the mediocre result you’re going to get compared to the people who do have the temperament, who can be more philosophical about these market fluctuations.”
- The late Charlie Munger, in an interview with the BBC, 2009.
Get your Free
financial review
It is said that in ancient Rome, triumphant generals returning home would parade around the city. While crowds would gather – no doubt attracted by the prospect of bread and circuses – a slave stationed at his rear would whisper into the general’s ear “Memento Mori.. Respice post te hominem te memento.” In other words: “Remember that you, too, will die. Look to the time after your death and remember that you’re only a man.”
The medieval period is particularly rich in the memento mori in art. This correspondent has a (plastic) skull on his desk at home given at some fintech conference a few years ago for some reason. The point being, like that of the Roman slave, to remind us of our own mortality, and at the same time to remind us to make the most of the limited time we have on this earth. To resort to Latin for a second time: sic transit gloria mundi. How quickly the glory of the world passes away. Seize the day.
Clients of the Tampa-based hedge fund OptionSellers.com were granted their own lesson in the transience of human affairs back in 2018, when the president of the company went onto YouTube to apologise for blowing the fund up after some ill-judged speculations in the oil and natural gas markets. You can watch part of the apology video here.
We know neither James Cordier nor his former business, OptionSellers.com, so we can’t tell whether his tears on the video are crocodilian or absolutely genuine. But we would make the following observations.
- The term ‘hedge fund’ used to mean something. It meant that high net worth investors sought a hedge against the inherent risk of traditional financial markets (i.e. stocks and bonds) by diversifying into a form of investment vehicle that attempted to mitigate that risk. ‘Hedge funds’ did not start out as speculative investment vehicles, far from it. The original hedge funds were, as their name implies, looking to hedge risk, not to add to it.
- But as the hedge fund community grew in size, a seemingly endless number of greedy chancers jumped on board, attracted by the opportunity to charge clients both a 2% annual fee on assets under management and, typically, a 20% share of any positive performance on top. Just the 2% (the so-called “carried interest”) would make any reasonably sized hedge fund manager rich, irrespective of their subsequent returns. The 20% performance share would, however, ensure riches beyond the dreams of avarice for the luckier high stakes gamblers out there.
- Volatility in the oil and natural gas markets is nothing new. What James Cordier refers to as the ship swamped by a rogue wave has happened on innumerable occasions before. See, for example, Amaranth.
- Amaranth Advisors, at its peak, was a hedge fund that had $9 billion under management. Although the fund had started out as a specialist in a strategy known as convertible arbitrage (which typically involves the purchase of convertible bonds and the simultaneous sale of related common stock), by 2005 the fund had shifted its focus onto energy trading and the natural gas market, influenced by its Canadian trader Brian Hunter. There’s just one thing you need to know about the commodities market. It’s volatile. Hunter speculated wildly in the natural gas market and ended up losing $6.5 billion.
- Long story short: hedge funds have morphed over the last 30 or so years from a relatively low risk way for wealthy private investors to diversify their portfolio risk into a Wild West of entirely unconstrained strategies ranging from conservative to ultra-aggressive, and in which the principle of ‘hedging’ and portfolio insurance has been cast to the winds. Given the 2% and 20% model that some hedge fund managers still use, you can hear the sound of the world’s smallest violins playing just for them.
- There are no such things as ‘rogue waves’ in the financial markets. Or rather, if there are, then the traders blindsided by them have no fundamental understanding of the inherent wildness of markets. The requisite book for interested readers is Benoit Mandelbrot’s The (Mis)Behaviour of Markets. The following extract is from our own book Investing Through The Looking Glass, which devotes almost an entire chapter to Mandelbrot. Investors – especially those engaging with the commodity markets – are strongly advised to consider the following of Mandelbrot’s observations.
“Rule 1: Markets are riskier than we think. And certainly riskier than conventional financial theory thinks.
Price movements do not happily track the bell curve. Extreme price swings are not the exception. They are the norm.
Rule 2: Trouble runs in streaks.
Or as Shakespeare put it, “When sorrows come, they come not single spies / But in battalions!” Market turbulence does not arise out of a clear blue sky and then disappear. It tends to cluster. A wild market open may well be followed by an equally desperate full trading session. A chaotic Monday may well be followed by an even more chaotic Tuesday.
Rule 3: Markets have their own personality.
The father of value investing, Benjamin Graham, famously created the manic depressive character Mr Market to account for the stock market’s constant oscillations between greed and fear. But when individual investors, institutional fund managers, hedge funds, day traders and sovereign wealth funds come together in a real marketplace, a new kind of market personality emerges – both greater than, and different from, the sum of its constituent parts.
Mandelbrot suggests that market prices are determined by endogenous effects specific to the inner workings of those markets, rather than by exogenous, external events. For example, his analysis of cotton prices during the last century showed the same broad pattern of price variability when prices were unregulated as they did in the 1930s when cotton prices were regulated as part of Roosevelt’s New Deal.
Rule 4: Markets mislead.
In Mandelbrot’s words, “Patterns are the fool’s gold of financial markets.” The workings of random chance create patterns, and human beings are pattern recognition experts. We see patterns even where none exist and financial markets are especially prone to statistical mirages. Following from this, bubbles and crashes are inherent to financial markets and “the inevitable consequence of the human need to find patterns in the patternless.”
Rule 5: Market time is relative.
Just as the market has its own personality, so it has its own time signature. Professional traders often speak of a fast or slow market, depending on their assessment of volatility at the time in question.
In a fast market, things like market-, stop- or limit orders have limited utility. Prices don’t necessarily glide smoothly within narrow ranges. Sometimes they gap down or leap up, effortlessly vaulting beyond price limits presumed to protect portfolios from ruin.
Traditional economists – if they’ve thought about them at all – have tended to treat the financial markets as a kind of closed system that obeys rigid and pre-set natural laws. Mandelbrot showed that the financial markets are altogether wilder than that. Another class of economists would recognise the inherent unpredictability of financial markets and the broader economy, and give them both the respect they deserved – the so-called Austrian School..”
Far from trying to maximise returns for our clients, we are trying to do something far subtler: participate as much as possible in the upside potential of the investment markets, while attempting to limit the downside as far as practicable. To this extent our investment objective is asymmetrical. We’re not interested in simply tracking the market – if we assume, as it is for most people, that “the market” is essentially the market for common stocks. We’re far more interested in absolute returns than market-relative ones. Unfortunately for all of us, most fund managers don’t think that way.
Don’t allow exploded hedge fund managers to control the narrative. Only by understanding the risks inherent in investing (and in speculative trading) do we have a chance of navigating the squalls to come, and of our portfolios surviving them. A third of a century of working within the financial markets has convinced us that our greatest enemy is ourselves; more specifically, our genetically inherited ‘fight or flight’ response honed over hundreds of thousands of years has limited application in financial markets that mankind has only experienced over the last two centuries or so. Our brains have not yet had time to evolve to cope with the psychological trauma of market risk or of suddenly realised financial loss.
At a time when many markets are struggling to find technical support, notably Big Tech stocks, and there are multiple political threats gathering on the horizon, it’s worth bearing in mind that there are two component parts to equity investing. There’s the underlying business which investors have fractional ownership of, and then there’s the stock market, which will go wherever it wants. As equity investors, we should be most concerned by the underlying performance of the companies we own, not by the daily meanderings of the stock market. In the context of great ‘value’ opportunities, the only real purpose of the stock market is to create bargains for our consideration from time to time. Unfortunately, the underlying performance of most companies is only reported by the financial media on a quarterly basis, if that. But at the very least, it seems madness to be led by the daily gyrations of the stock market when it’s the company’s own profits and revenues and cash flow that actually dictate its market value over the medium term.
Charlie Munger’s earlier quote is a typically hard-nosed articulation of this point. But he happened to be right. Equity investing can lead to terrific longer term wealth generation, but it requires a steely attitude and a willingness to buck the mood of the crowd. Not everybody has those characteristics. But then, not everybody is going to make money from their equity investments. The stock market has a tendency to shift money and profits from weak hands to strong ones. To paraphrase Charlie Munger, if you can’t stand the heat, don’t stay in the kitchen. But if you choose to leave the kitchen, chances are you will end up in the poorhouse.
Back to the topic of the memento mori. Some time ago we came across a post on Twitter / X that we have adapted for the purpose of this commentary. Credit for the original should go to Owen Hofmeyr. What follows is our adaptation of his original post.
The Investor’s Contract
I, __________ ___________, hereby state that I am an investor who is seeking to protect and grow my capital for many years into the future. I know that there will be times in which I will be tempted to invest in things purely because they have gone, or are in the process of going, up, quite strongly, in price.
I also know that there will be times in which I will be tempted to sell out of my investments because they are going, or have gone, down sharply in price.
I hereby declare my refusal to let a herd of strangers whom I have never met make my investment decisions for me. I furthermore make a solemn investment not to invest in anything simply because it has risen in price, and never to sell something simply because it has fallen in price.
Instead of falling prey to the emotionally sensitive parts of my brain, I intend to exploit them instead. In addition to seeking long term investments in high quality businesses run by principled, shareholder-friendly managers, ideally bought at bargain prices, I will also look to invest into similarly high quality businesses that are, for whatever reason, temporarily on offer at distressed valuations. I will also look to maximise my opportunity set into the widest area possible where one can identify specialist managers with an explicit ‘value’ ethos.
I intend to hold an investment for a minimum of three to five years, unless a markedly superior opportunity arises, or the underlying fundamentals of one of my investments change dramatically for the worse, or I am demonstrably proven wrong in my assumptions.
Signed,
_______________ ______________.
Concentrates the mind, don’t you think ?
………….
As you may know, we also manage bespoke investment portfolios for private clients internationally. We would be delighted to help you too. Because of the current heightened market volatility we are offering a completely free financial review, with no strings attached, to see if our value-oriented approach might benefit your portfolio – with no obligation at all:
Get your Free
financial review
…………
Tim Price is co-manager of the VT Price Value Portfolio and author of ‘Investing through the Looking Glass: a rational guide to irrational financial markets’. You can access a full archive of these weekly investment commentaries here. You can listen to our regular ‘State of the Markets’ podcasts, with Paul Rodriguez of ThinkTrading.com, here. Email us: info@pricevaluepartners.com.
Price Value Partners manage investment portfolios for private clients. We also manage the VT Price Value Portfolio, an unconstrained global fund investing in Benjamin Graham-style value stocks and also in systematic trend-following funds.
“Q: How much does Charlie Munger – Warren Buffett’s right hand man, and a billionaire in his own right – worry when the share price of Berkshire Hathaway declines ?
“A: “Zero. This is the third time that Warren and I have seen our holdings in Berkshire Hathaway go down, top tick to bottom tick, by 50%. I think it’s in the nature of long term shareholding of the normal vicissitudes, in worldly outcomes, and in markets, that the long-term holder has his quoted value of his stocks go down by, say, 50%. In fact, you can argue that if you’re not willing to react with equanimity to a market price decline of 50% two or three times a century, you’re not fit to be a common shareholder, and you deserve the mediocre result you’re going to get compared to the people who do have the temperament, who can be more philosophical about these market fluctuations.”
Get your Free
financial review
It is said that in ancient Rome, triumphant generals returning home would parade around the city. While crowds would gather – no doubt attracted by the prospect of bread and circuses – a slave stationed at his rear would whisper into the general’s ear “Memento Mori.. Respice post te hominem te memento.” In other words: “Remember that you, too, will die. Look to the time after your death and remember that you’re only a man.”
The medieval period is particularly rich in the memento mori in art. This correspondent has a (plastic) skull on his desk at home given at some fintech conference a few years ago for some reason. The point being, like that of the Roman slave, to remind us of our own mortality, and at the same time to remind us to make the most of the limited time we have on this earth. To resort to Latin for a second time: sic transit gloria mundi. How quickly the glory of the world passes away. Seize the day.
Clients of the Tampa-based hedge fund OptionSellers.com were granted their own lesson in the transience of human affairs back in 2018, when the president of the company went onto YouTube to apologise for blowing the fund up after some ill-judged speculations in the oil and natural gas markets. You can watch part of the apology video here.
We know neither James Cordier nor his former business, OptionSellers.com, so we can’t tell whether his tears on the video are crocodilian or absolutely genuine. But we would make the following observations.
“Rule 1: Markets are riskier than we think. And certainly riskier than conventional financial theory thinks.
Price movements do not happily track the bell curve. Extreme price swings are not the exception. They are the norm.
Rule 2: Trouble runs in streaks.
Or as Shakespeare put it, “When sorrows come, they come not single spies / But in battalions!” Market turbulence does not arise out of a clear blue sky and then disappear. It tends to cluster. A wild market open may well be followed by an equally desperate full trading session. A chaotic Monday may well be followed by an even more chaotic Tuesday.
Rule 3: Markets have their own personality.
The father of value investing, Benjamin Graham, famously created the manic depressive character Mr Market to account for the stock market’s constant oscillations between greed and fear. But when individual investors, institutional fund managers, hedge funds, day traders and sovereign wealth funds come together in a real marketplace, a new kind of market personality emerges – both greater than, and different from, the sum of its constituent parts.
Mandelbrot suggests that market prices are determined by endogenous effects specific to the inner workings of those markets, rather than by exogenous, external events. For example, his analysis of cotton prices during the last century showed the same broad pattern of price variability when prices were unregulated as they did in the 1930s when cotton prices were regulated as part of Roosevelt’s New Deal.
Rule 4: Markets mislead.
In Mandelbrot’s words, “Patterns are the fool’s gold of financial markets.” The workings of random chance create patterns, and human beings are pattern recognition experts. We see patterns even where none exist and financial markets are especially prone to statistical mirages. Following from this, bubbles and crashes are inherent to financial markets and “the inevitable consequence of the human need to find patterns in the patternless.”
Rule 5: Market time is relative.
Just as the market has its own personality, so it has its own time signature. Professional traders often speak of a fast or slow market, depending on their assessment of volatility at the time in question.
In a fast market, things like market-, stop- or limit orders have limited utility. Prices don’t necessarily glide smoothly within narrow ranges. Sometimes they gap down or leap up, effortlessly vaulting beyond price limits presumed to protect portfolios from ruin.
Traditional economists – if they’ve thought about them at all – have tended to treat the financial markets as a kind of closed system that obeys rigid and pre-set natural laws. Mandelbrot showed that the financial markets are altogether wilder than that. Another class of economists would recognise the inherent unpredictability of financial markets and the broader economy, and give them both the respect they deserved – the so-called Austrian School..”
Far from trying to maximise returns for our clients, we are trying to do something far subtler: participate as much as possible in the upside potential of the investment markets, while attempting to limit the downside as far as practicable. To this extent our investment objective is asymmetrical. We’re not interested in simply tracking the market – if we assume, as it is for most people, that “the market” is essentially the market for common stocks. We’re far more interested in absolute returns than market-relative ones. Unfortunately for all of us, most fund managers don’t think that way.
Don’t allow exploded hedge fund managers to control the narrative. Only by understanding the risks inherent in investing (and in speculative trading) do we have a chance of navigating the squalls to come, and of our portfolios surviving them. A third of a century of working within the financial markets has convinced us that our greatest enemy is ourselves; more specifically, our genetically inherited ‘fight or flight’ response honed over hundreds of thousands of years has limited application in financial markets that mankind has only experienced over the last two centuries or so. Our brains have not yet had time to evolve to cope with the psychological trauma of market risk or of suddenly realised financial loss.
At a time when many markets are struggling to find technical support, notably Big Tech stocks, and there are multiple political threats gathering on the horizon, it’s worth bearing in mind that there are two component parts to equity investing. There’s the underlying business which investors have fractional ownership of, and then there’s the stock market, which will go wherever it wants. As equity investors, we should be most concerned by the underlying performance of the companies we own, not by the daily meanderings of the stock market. In the context of great ‘value’ opportunities, the only real purpose of the stock market is to create bargains for our consideration from time to time. Unfortunately, the underlying performance of most companies is only reported by the financial media on a quarterly basis, if that. But at the very least, it seems madness to be led by the daily gyrations of the stock market when it’s the company’s own profits and revenues and cash flow that actually dictate its market value over the medium term.
Charlie Munger’s earlier quote is a typically hard-nosed articulation of this point. But he happened to be right. Equity investing can lead to terrific longer term wealth generation, but it requires a steely attitude and a willingness to buck the mood of the crowd. Not everybody has those characteristics. But then, not everybody is going to make money from their equity investments. The stock market has a tendency to shift money and profits from weak hands to strong ones. To paraphrase Charlie Munger, if you can’t stand the heat, don’t stay in the kitchen. But if you choose to leave the kitchen, chances are you will end up in the poorhouse.
Back to the topic of the memento mori. Some time ago we came across a post on Twitter / X that we have adapted for the purpose of this commentary. Credit for the original should go to Owen Hofmeyr. What follows is our adaptation of his original post.
The Investor’s Contract
I, __________ ___________, hereby state that I am an investor who is seeking to protect and grow my capital for many years into the future. I know that there will be times in which I will be tempted to invest in things purely because they have gone, or are in the process of going, up, quite strongly, in price.
I also know that there will be times in which I will be tempted to sell out of my investments because they are going, or have gone, down sharply in price.
I hereby declare my refusal to let a herd of strangers whom I have never met make my investment decisions for me. I furthermore make a solemn investment not to invest in anything simply because it has risen in price, and never to sell something simply because it has fallen in price.
Instead of falling prey to the emotionally sensitive parts of my brain, I intend to exploit them instead. In addition to seeking long term investments in high quality businesses run by principled, shareholder-friendly managers, ideally bought at bargain prices, I will also look to invest into similarly high quality businesses that are, for whatever reason, temporarily on offer at distressed valuations. I will also look to maximise my opportunity set into the widest area possible where one can identify specialist managers with an explicit ‘value’ ethos.
I intend to hold an investment for a minimum of three to five years, unless a markedly superior opportunity arises, or the underlying fundamentals of one of my investments change dramatically for the worse, or I am demonstrably proven wrong in my assumptions.
Signed,
_______________ ______________.
Concentrates the mind, don’t you think ?
………….
As you may know, we also manage bespoke investment portfolios for private clients internationally. We would be delighted to help you too. Because of the current heightened market volatility we are offering a completely free financial review, with no strings attached, to see if our value-oriented approach might benefit your portfolio – with no obligation at all:
Get your Free
financial review
…………
Tim Price is co-manager of the VT Price Value Portfolio and author of ‘Investing through the Looking Glass: a rational guide to irrational financial markets’. You can access a full archive of these weekly investment commentaries here. You can listen to our regular ‘State of the Markets’ podcasts, with Paul Rodriguez of ThinkTrading.com, here. Email us: info@pricevaluepartners.com.
Price Value Partners manage investment portfolios for private clients. We also manage the VT Price Value Portfolio, an unconstrained global fund investing in Benjamin Graham-style value stocks and also in systematic trend-following funds.
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