Poor Charlie's Almanack

Multiple Mental Models

A portfolio of three companies is plenty of diversification.

Charlie generally focuses on what to avoid or what or not do before he considers the affirmative steps he will take in a given situation.
According to Albert Einstein’s admonition: “A scientific theory should be as simple as possible, but no simpler” could be described as avoiding one-size-fits-all formulas to reduce enormously complex systems (such as those in economics)

Charlie Munger has developed a two-track analysis.

What are the factors that really govern the interests involved, rationally considered?
What are the subconscious influences that is automatically doing these things?

One approach is rationality, the way you’d work out a bridge problem and the other is to evaluate psychological factors that cause subconscious conclusions, many of which are wrong.

Evaluation process

Identify your circles of competence by having there baskets for investing: yes, no and too tough to understand:

To identify potential yes, look for an easy-to-understand, dominant business franchise that can sustain itself and thrive in all market environments.
Many pharmaceuticals and technology, for example go straight to the “too tough to understand” basket.
Heavy promoted deals and IPOs earn immediate nos.

Consider the list of additional factors:

prospective regulatory climate
state of labor
supplier and customer relations
potential impact of changes in technology
competitive strengths and vulnerabilities
pricing power
scalability
environmental issues
hidden exposures

Assess a company management well beyond conventional number crunching - in particular the degree to which they are “able, trustworthy, and owner oriented”

Investment Principle Checklist

Risk

All investment evaluations should begin by measuring risk, especially reputational

Incorporate an appropriate margin of safety.
Avoid dealing with people of questionable character.
Insist upon proper compensation for risk assumed.
Always beware of inflation and interest rate exposures.
Avoid big mistakes; shun permanent capital loss.

Independence

Only in fairy tales are emperors told they are naked.

Objectivity and rationality require independence of thought.
Remember that just because other people agree or disagree with you doesn’t make you right or wrong - the only thing matters is the correctness of your analysis and judgment.
Mimicking the herd invites regression to the mean (merely average performance)

Preparation

The only way to win is to work, work, work, work and hope to have a few insights.

Develop into a lifelong self-learner through voracious reading; cultivate curiosity and strive to become a little wiser every day.
More important than the will to win is the will to prepare.
Develop fluency in mental models from the major academic disciplines.
If want to get smart, the question you have to keep asking is “why, why, why?”

Intellectual humility

Acknowledging what you don’t know is the dawning of wisdom.

Stay within a well-defined circle of competence.
Identify and reconcile disconfirming evidence.
Resist the craving for false precision, false certainties, etc.
Above all, never fool yourself, and remember that you are the easiest person to fool.

Analytic Rigor

Use of the scientific method and effective checklists minimizes errors and omissions

Determine value apart from price, progress apart from activity, wealth apart from size.
It is better to remember the obvious than to grasp the esoteric.
Be a business analyst, not a market, macroeconomic, or security analyst.
Consider the totality of risk and effect; look always at potential second-order and higher-level impacts.
Think forward and backward: Invert, always invert.

Allocation

Proper allocation of capital is an investor’s number one job.

Remember that the highest and best use if always measured by the next best use (opportunity cost)
Good ideas are rare - when the odds are greatly in your favor, bet (allocate) heavily.
Don’t fall in love with an investment - be situation-dependent and opportunity-driven.

Patience

Resist the natural human bias to act.

Compound interest is the eighth wonder of the world; never interrupt it unnecessarily.
Avoid unnecessary transactional taxes and frictional costs; never take action for its own sake.
Be alert for the arrival of luck.
Enjoy the process along with the proceeds, because process is where you live.

Decisiveness

When proper circumstances present themselves, act with decisiveness and conviction.

Be fearful when others are greedy and greedy when others are fearful.
Opportunity doesn’t come often, so seize it when it does.
Opportunity meeting the prepared mind - that’s the game.

Change

Live with change and accept unremovable complexity.

Recognize and adapt to the true nature of the world around you; don’t expect it to adapt to you.
Continually challenge and willingly amend your best-loved ideas.
Recognize reality even when you don’t like it - especially when you don’t like it.

Focus

Keep things simple and remember what you set out to do.

Remember that reputation and integrity are your most valuable assets - and be lost in a heartbeat.
Guard against the effects of hubris and boredom.
Don’t overlook the obvious by drowning in minutiae.
Be careful to exclude unneeded information or slop: A small leak can sink a great ship.
Face your big troubles, don’t sweep them under the rug.