Edward Quince’s Wisdom Bites: OPV Page 73

“Buffett’s style is to tackle problems his intellectual brilliance can solve but to steer clear of problems it cannot. Often he has said he’s trying to step over one-foot obstacles, not jump over seven-foot obstacles.  He strives to make things as easy as possible by seeking commonsense, efficient ways of doing things, making the layups he talks about.  He works hard at the possible and avoids the impossible. One of his great messages is to avoid trouble.  In the stock market, that means staying away from capital losses.”

Buffett’s advice and style seems so simple and intuitive, focus on what you know, make layups, not half-court shots and stay away from big losses.  Despite that it seems like advice that is so incredibly out of reach for most investors. Why?  I think it’s because we live in a very “additive culture”, one centered on reaching goals by doing, by activity. A culture that looks to the stock market as the place to get rich.  One where many investors believe the path is one where you need to pick the best investment manager, the best macro-forecaster, find the right voices to follow on X, just find the right data, etc. and that’s the win.  A world where the more complex story feels more ‘right’.

Wall Street capitalizes on the culture of addition and complexity.  It sells complex products, complex narratives, elaborate models, forecasts and the like to convince investors they have ‘an edge.’  A chance to be spectacular, to have fast, superior returns.

What Buffett and Munger have shown over the past 50 years is that the real game of life is not about being spectacular; it’s about being consistently not stupid.  Buffett strives to “step over one-foot obstacles, not jump over seven-foot ones.”  A reminder that ‘genius has the fewest moving parts’ and true understanding is often found in the simplicity of your explanations.  Buffett was staking away from areas where the investment case required complicated, financial engineering or black-box explanations or fanciful extrapolations

But he’s Buffett and we’re not.  Most of us are not built for the type of bottoms up stock selection that was a one-foot hurdle for Buffett, for us finding those compounders that will 100x over the next 20 years is a seven foot hurdle.

So how can we, the ‘lay’ investors, translate Buffett’s advice into a practical strategy? We can do it by embracing the Art of Subtraction and applying the principles of Inversion.

Inversion shifts our focus from trying to find the things that will guarantee success, a mindset built on trying to predict the future, to a focus on the bad habits that guarantee ruin - a much more knowable set of habits.  We don’t need to build the perfect portfolio; we need to build the portfolio that won’t blow us up.

And the Art of Subtraction goes hand in hand with this focus, instead of attempting to find the things that will definitely make our portfolio go up in value, we can seek to remove the things that we know with certainty will cause our portfolio to fall in value.  

We can remove the things that stop us from succeeding.  There are three subtractions we talk about often on this blog:

1. Subtract Leverage: Debt is the ultimate double-edged sword. It does not add value; it merely magnifies risk and introduces the "risk of ruin"—the catastrophic downside to which there is no corresponding upside. If you eliminate leverage, you pre-purchase your own survival.

2. Subtract the Noise: Nassim Taleb calls it the "Noise Bottleneck"—the reality that the more data you consume, the less you actually know. If a piece of news won’t matter in five years, do not give it more than five minutes of your attention. Turn off the alerts, mute the financial TV, and let go of the "need for certainty," which Robert Greene calls the greatest disease of the mind.

3. Subtract the Ego: Acknowledge your limitations. As Munger famously warned, “It’s hardly a competence if you don’t know the edge of it.”. If you do not have the skill to analyze businesses, be honest about it. Do not pretend to be an enterprising investor when you are a speculator.

When you subtract complexity, you reveal the ultimate layup: the low-cost, highly diversified index fund. As Ben Graham wisely noted, “To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks.”.

For those who rely on others or lack a micro-edge, Graham’s advice is simple: limit yourself strictly to standard, conservative, and even unimaginative forms of investment. By owning the entire "haystack" through a passive index, you ensure you capture the long-term compound interest of human progress without needing to pick the individual needles.

Sometimes, the most courageous and profitable action is to simply do nothing. When the market is shouting "don't just sit there, do something!", wisdom whispers back: "don't just do something, sit there!". Put your head down, do excellent work in your own career, and let time do the heavy lifting

 

Edward Quince's Wisdom Bites: OPV Page 456

Asked if the markets were overvalued [in 1993], Buffett said, "I've never been a good judge of the markets. I try to evaluate specific businesses. If I could evaluate a few specific businesses every year half-way correctly, I'd look at it as a successful year. I've never made any money guessing which way the market's going."  "Questioned about whether it was harder now to find undervalued investments, Buffett said it's harder now but, "It always seems hard at the present time."

We talk a lot on this blog about how easy it is to find so many voices that seemingly earn their livelihoods projecting absolute certainty about interest rates or short-term stock market movements.  As I’ve stated in the past I have a suspicion that embracing your own ignorance can be a profitable decision for your finances, freeing you to build things that survive and perhaps even thrive in uncertainty. 

A core philosophy of Buffett’s and his mentor Ben Graham is the futility of macro-forecasting. Buffett has said, "Charlie Munger and I have been buying stocks and businesses for 50 years. In that entire time, we’ve never had a discussion of macroeconomic factors in making a decision as to whether to buy, or sell a business."  Acknowledging that you can’t predict the future is a theme echoed by the likes of Howard Marks and other investment luminaries.

While the “I don’t know” school of investing can feel extremely uncomfortable, it may come with the structural advantage of freeing the investor from wasting capital on macroeconomic bets. Instead you can focus on some highly practical and actionable strategies.

As an alternative to macro bets, you can commit to “knowing the knowable”.  There are a few ways you can play the “knowing the knowable” game.  One approach is to study financial statements of individual companies, focusing on micro-level analysis seeking to gain a specialized knowledge advantage over other investors who seemingly get lost in the macroeconomic noise.  That’s the type of game Buffett and Munger have played, but it’s not for everyone.  Most of us lay folk don’t possess the expertise or have the time to devout to this practice.

The second discipline is perhaps more realistic or practical.  I think of it as “knowing the knowable” as it relates to you, the person.  It’s first knowing the boundaries around your circle of competence. If you don’t believe you can predict which individual stocks will survive and outperform over your investment horizon, that’s good information.  If you know you can’t spend time doing micro level investment research, that’s good to know and knowable. If you know that, you have a solution in adopting a broad diversification approach, one that hopefully allows you to participate in the steady upward drift of human progress without picking the winners in advance.

For those who acknowledge that stock-picking is not for them, they can focus their attention on an even more reliable, highly predictable domain of “knowing the knowable”: their own psychological wiring. 

Our own behavior flaws are entirely knowable, though often painful to admit.  If you can look in the mirror today and admit that you are prone to panic when your portfolio drops 20%, or that you experience insane FOMO if you hear that your friend's portfolio is up more than yours, that is a “knowable” thing that you can strategize around.

Passive index investing is not intellectually “lazy”, it’s a possible answer to a well thought out strategy in an attempt to win the battle with your emotions. It is your battleplan to outflank your emotional enemies. One way to do this is to embrace broad and largely automated indexing that removes yourself from the decision making loop entirely.  By adopting a broad diversification approach, you should capture the steady upward drift of human progress without the need to pick the winners in advance. It’s about managing your own behavioral boundaries and protecting your capital from your own worst impulses.

Whether you choose to tackle the inherent uncertainty of the future by digging deeply into finding individual businesses to invest in or by surrendering to broad based diversification, one thing we also know with certainty is that leverage narrows the range of outcomes anyone can comfortably survive.  Keeping your own balance sheet resilient is a sure way to ensure your psychology doesn’t snap at the absolute worst time.

Your psychological edge comes from aligning your actions with your actual circle of competence and that circle must always start with an honest audit of your own reflection.

 

Edward Quince’s Wisdom Bites: Are You Intelligent? Chapter 12

 After introducing the topic of ‘Security Analysis’, Graham moves towards a further examination of earnings. Remember there are really only three things that matter for the analyst, are there to be future earnings, when will they arrive, and how they should be capitalized.  Earnings are the lifeblood of the company and the lifeblood of an investors’ returns.  "The absolute most that the owners of a business, in aggregate, can get out of it in the end - between now and Judgment Day - is what that business earns over time."  The “in aggregate” part there is important, but I won’t harp on explaining it.

Graham has already spent plenty of time bemoaning simple extrapolations of the past and he extends that to his discourse on earnings per share, stating:”first, don’t take a single year’s earnings seriously. Second, is if you do pay attention to short-term earnings, look out for booby traps in the per-share figures. If our first warning were followed strictly, the second would be unnecessary.”

What are these “booby traps”? Graham lists a few such as: special charges, reduction in normal income tax due to past losses, the dilution factor implicit in convertibles and warrants/options, the method of depreciation, the treatment of R&D, the inventory method, etc.    Suffice to say, accounting can be tricky.

To avoid placing too much emphasis on the short-term and attempt to remove some of the noise of these “booby traps” Graham was a fan of looking at average returns over a long period of time and comparing recent earnings growth trends to the company’s previous growth trends, often 10 years earlier.  Something that is likely impossible to do for newer, early stage companies.

Zweig takes Graham’s “booby traps” and updates them for some of the traps investors face in the 21st century.

Commenting on Commentary on Chapter 12

The biggest trap that Zweig highlights is the use of “pro forma” or “as is” earnings numbers.  These measures are simply the earnings that GAAP (accounting rules) proscribe with numerous adjustments.  The idea of pro forma numbers was to ‘help’ investors by removing the short-term, non-recurring, items that were otherwise making earnings noisy.  As occurs with many decent ideas, things can get taken too far.  Zweig describes pro forma earnings as: “enabling companies to show how well they might have done if they hadn’t done as badly as they did.”

Zweig explores a few cases of ‘abuses’ in accounting to make the point that “the intelligent investor should be sure to understand what, and why, a company capitalizes.” (capitalizes means the company spends money on something but doesn’t call that spending an expense)

The key takeaway for me in this chapter is that if you plan to invest in a given stock security on the basis of what would be necessary to call your investment ‘intelligent’ or ‘enterprising’ you’ll need to do a lot of reading up on the company’s financial statements, digging into the footnotes, understanding accounting policy elections and how they might be impacting earnings.  After all, if it was easy, everyone would be doing it.

“You can get ripped off easier by a dude with a pen than you can by a dude with a gun.” - Bo Diddley

Edward Quince's Wisdom Bites: Are You Intelligent? Chapter 3

 We’re now 3 posts deep on exploring Jason Zweig’s commentary on the Ben Graham classic book, The Intelligent Investor.  In our last two posts we learned about the 3 elements that define investing vis a vis speculating and why inflation must be factored into the evaluation of investment returns and goals.

Today, in reviewing Chapter 3 (or more precisely Zweig’s commentary on Chapter 3) we learn of the perils of extrapolating the past, as Zweig puts it: “...the intelligent investor must never forecast the future by extrapolating the past.”

Commenting on Commentary on Chapter 3

Chapter 3 is all about reviewing historical investment performance. At first the cursory reader may be tempted to skip this chapter as it was titled in a manner that it was an exploration of stock market levels up to 1972, but in judging this chapter solely by its title one would miss the genius of the central lessons inherent in it.

As mentioned above one of the wise lessons in this chapter is what I mentioned above to not forecast the future solely based on the past, however, for me the bigger lesson is simply that what you pay for an investment matters - or succinctly price matters.

Zweig dives into the logic of some of the 1990s prominent investment gurus and the argument that effectively says that if you hold stocks long enough, you eliminate all of the risk, that stocks are a “free lunch” if the investor just has enough time.  You may be saying to yourself, but isn't it correct that over a long enough time line history does show stocks in the aggregate have positive returns?  And that would be correct, the nuance is that statement isn’t enough to guarantee that you as an investor actually earn those returns.  Why? Because over that time horizon some/many companies fail, leading to “survivorship bias” in aggregate returns, meaning that the individual investors' portfolio construction would have had to be able to overcome those losers, or maybe more succinctly, not everyone owned the market portfolio.  But all of the aforementioned is just a sidebar to the deeper truth in this chapter which is: “The value of an investment is, and always must be, a function of the price you pay for it.”

So long as profits are finite, the price an investor is willing to pay must also be finite. Reflecting on that for a second, it’s a simple message, for all investments there will be some price at or above which it is simply too high, it is an impossibility the profits will be earned to cover that price.  Graham calls it the “rule of opposites” that the more enthusiastic investors are in stocks for the long run, the more likely they are to be proven wrong in the short run.  Perhaps this is just saying that the more hopium the market prices into stocks the more likely they are to be disappointed.

Too high of prices should lead an investor to ask at this price how can future returns still be higher? Once everything is ‘priced in’ where can the new optimism come from?

Zweig challenges us to think about future returns with cold calculating logic, not with market punditry and ‘noise’ from gurus.  And exactly what is that cold calculating logic of stock returns, well it is 3 factors (Graham seemed to like 3s): 1) real growth (the rise of company earnings), 2) inflationary growth (general rise in prices that companies can pass through ) and 3) speculative growth or decline (the general appetite for investing in stocks).  We’re not going to dive into these factors, but I would like to again highlight the fundamental logic that underlies these which I think was perfectly summed up by Warren Buffett in this quote:

"The absolute most that the owners of a business, in aggregate, can get out of it in the end - between now and Judgment Day - is what that business earns over time." 

Your investments can’t ‘out-earn’ the economy in aggregate. Does that exclude some companies from earning a disproportionate share of economic output, of course not.  Can you or anyone consistently find and buy shares in just those companies at fair prices and then exit them at the right time? Probably also no.

This is where some themes start to converge. Graham defines an element of intelligent investing as aspiring for ‘adequate’ performance. If we use the formula above, one place an investor might find ‘adequate’ performance might simply be what Buffett has called the ‘American tailwind’, simply capturing the real growth of an economy and letting it compound.  

Of course betting on an economic tailwind to continue is not necessarily enough, as Zweig reminds us: “The only thing you can be confident about while forecasting future stock returns is that you will probably turn out to be wrong.”  

As investors, if we’re trying in some way to put the ‘odds on our side’, then for me this chapter is all about realizing that price matters.

Next post we’ll begin to explore Graham’s views on the topic of ‘Portfolio Construction’.

Until then:

“You’ve got to be careful if you don’t know where you’re going, ‘cause you might not get there.’ - Yogi Berra.

Edward Quince’s Wisdom Bites: The Architecture of the Precise Con

"The bigger the lie, the more they believe." > — Bunk Moreland (The Wire, Season 5, Episode 1)

The Financial Translation

Human nature possesses a deep-seated, insatiable craving for absolute certainty. We dread the reality that the future is an unmapped, non-linear system governed by odds rather than definitive constants. This psychological vulnerability leaves the public permanently exposed to financial charlatans and product innovators who specialize in supplying the exact illusion of risk-free wealth the crowd desires.

When Wall Street introduces an exotic, complex financial vehicle—whether it is a specialized derivative tranche, a novel SPAC structure, or a hyper-scaled AI projection model—they never describe it vaguely. They drown the allocator in a blizzard of precise, technical jargon and hyper-detailed "back-tested data".

[Anxiety of Uncertainty] ➔ Demand for Certainty ➔ Hyper-Specific Modeling Veneer ➔ Financial Engineering Trap

This hyper-precision is a rhetorical device designed to construct a pseudo-scientific veneer. It tricks the observer into confusing mathematical complexity with actual intelligence. The more intricate, multi-layered, and opaque the flowchart becomes, the more the public suspends its natural skepticism. They assume that an army of quants must have mastered the downside, entirely forgetting that more data often increases the ratio of noise to actual signal.

The Tactical Takeaway

Beware any pitch deck that relies on hyper-specific details about a future that has not happened yet; it is fiction written with numbers. Apply a strict intellectual razor to financial complexity: if you cannot understand the basic mechanics and the precise source of the return immediately, walk away. Complexity is almost always a structural transfer mechanism designed to migrate wealth from the captive client to the manager’s fee pool. Stick exclusively to simple ideas, and take them with absolute seriousness. 

Edward Quince’s Wisdom Bites: The Sovereign Reluctance

 Back in October 2023, this platform ran a month-long daily series that opened each economic assessment with an epigraph from David Simon’s gritty masterpiece, The Wire. At the time, mapping the bureaucratic rot of Baltimore onto the shifting dynamics of the Federal Reserve’s "R-star wars" felt like a seasonal creative juxtaposition.

However, looking back at those entries through the lens of our current monetary environment exposes a deeper reality: the human patterns that drive systemic decay, narrative manipulation, and institutional blindness are identical across every arena.

We'll be utilizing a select subset of those classic epigraphs to uncover the structural laws operating deep beneath the surface of the global financial system.

"The game is rigged, but you cannot lose if you do not play." > — Marla Daniels (The Wire, Season 1, Episode 2)

The Financial Translation

The modern wealth-management apparatus is fundamentally structured as a commercial marketing machine designed to exploit human restlessness. Wall Street sets up a hyperactive casino floor, inundating the allocator with real-time tickers, shifting daily forecasts, and urgent alerts. This "hubbub" serves a very specific corporate purpose: it builds a psychological addiction to continuous trading.

The industry systematically pathologizes silence, labeling a patient, long-term approach as "inefficient" or outdated. They want you to trade positions, swap assets, and jump into viral fads because your frantic transactional friction is exactly how intermediaries generate their own income.

True financial sovereignty requires the intestinal fortitude to step completely away from the table. Outstanding long-term wealth compounding is built on the default setting of disciplined non-action—the ability to sit quietly on your assets, ignore the crowd, and let time carry the exponential weight of the cycle.

[Wall Street Noise & Alerts] ➔ Forced Activity / Style Drift ➔ Fee Drag & Churn ➔ Destruction of Compound Alpha

The Tactical Takeaway

Stop asking active managers, market pundits, and economic seers to sell you certainty; they do not possess it. Reclaim your own timeline by establishing a clear investment objective, defaulting to low-cost index funds, and maintaining deep cash reserves as an infinite call option on market distress. The ultimate dividend money pays is not a luxury status symbol, but the absolute ownership of your own calendar. Renounce the trivial temptation of short-term activity for the silent magic of uninterrupted compounding.