Edward Quince's Wisdom Bites: The Oracle - The Pivot to Quality: From Cigar Butts to Perpetual Compounding

Edward Quince (EQ): Warren, your early investment career, heavily influenced by Ben Graham, focused on finding undervalued "cigar butt" stocks—those with one last profitable puff. Yet, your philosophy famously pivoted. What core insight prompted you to abandon buying "fair businesses at wonderful prices" in favor of "wonderful businesses purchased at fair prices"?

Warren Buffett (WB): That shift was arguably the most important change in my investing philosophy, and I credit my late partner, Charlie Munger, as the architect. He promptly advised me to forget about ever buying another company like early Berkshire. We realized that focusing on fair businesses, which often require quick turnover to extract the last bit of value, had limits.

EQ: What is the fundamental appeal of a "wonderful business"?

WB: A wonderful business is one that has a strong, durable franchise. These businesses possess traits that allow them to deploy additional capital at high rates of return in the future. For instance, looking back, two wonderful decisions—investments in Coke and Amex—can outweigh many other mediocre decisions Berkshire has made over the years. The goal is to find businesses that have large moats around them, complete with crocodiles, sharks, and piranhas swimming around.

EQ: And how does this emphasis on quality impact the holding period? Is it still about buying cheap and selling when the price reflects value?

WB: No. If you're buying cigar butts, you must quickly get rid of them because there aren't many puffs left. But when you find a wonderful business, "Our favorite holding period is forever". We are looking to attract long-term owners who plan to stay with us indefinitely. When I buy a stock, I think of it as buying a whole company, just as if it were the store down the street. The success of the investment largely depends on the accuracy of our analysis of the company, not on market movements.

The Edward Quince Takeaway

The greatest long-term returns are generated by owning companies whose underlying economics are superb, regardless of price fluctuations. Focus your energy on finding businesses with durable competitive advantages (moats) run by "able and trustworthy" managers, because if you are right about the business, that is truly the main thing.

Edward Quince's Wisdom Bites: The Marks Series - Second-Level Thinking and Contrarianism

Edward Quince (EQ): Howard, given how easy it is to access data today, many investors believe they are intellectually superior. You argue that true superiority requires a concept you call "second-level thinking". What is the core distinction between first-level and second-level thinking?

Howard Marks (HM): Superior investing isn't easy. Anyone who thinks it is must be a first-level thinker. First-level thinking is simplistic and superficial, such as looking for the highest-quality company, the best product, or the fastest earnings growth, without considering the price or investor perception. Second-level thinking is deep, complex, and requires you to think differently and better than the consensus.

EQ: Can you give us an example of how this applies to fundamental analysis?

HM: Certainly. A first-level thinker says: "That's a great company; we should buy it". A second-level thinker asks: "It is a great company, but everyone agrees, so its valuation is sky-high. If anything goes wrong, the stock will plummet. I'll avoid it". For your performance to diverge from the norm, your expectations—and thus your portfolio—have to diverge from the norm, and you have to be more right than the consensus.

EQ: This seems tightly linked to contrarianism. How important is resisting the herd mentality to achieving long-term success?

HM: It is essential. Contrarianism means consciously looking for things others haven’t recognized. Since the consensus view of the future is already embedded in the price of an asset, to bring above average profits, a forecast generally must be different from the consensus and accurate. We believe strongly in contrarianism. That means leaning away from the direction chosen by most others: Sell when they’re euphoric, and buy when they’re afraid.

EQ: Acting against the crowd takes courage, especially since there is often a period where following the herd seems smart, and the abstainer looks foolish.

HM: That period of underperformance is inevitable, but the roles are inevitably reversed in the long run. You must be able to stand by your non-consensus view, even if the early going suggests it’s wrong. Ultimately, superior investing requires not just possessing data, but drawing superior inferences and applying second-level thinking. We must recognize that the market will only be permanently efficient when investors are permanently objective and unemotional—in other words, never. This imperfection provides the opportunity for skill to outperform.

The Edward Quince Takeaway

To achieve superior results, you must engage in second-level thinking: being different and being better than the consensus. Recognize that opportunities exist because other people have made mistakes. Dare to be a conscious contrarian, buying what others hate and selling what others love, because following the herd ensures average results at best.

Edward Quince's Wisdom Bites: The Marks Series - Leverage: The Accelerator to Ruin

Edward Quince (EQ): Howard, your memos have repeatedly sounded the alarm on the use of leverage, particularly in times of low-risk perception. Why do you characterize leverage as the ultimate two-edged sword?

Howard Marks (HM): Leverage doesn’t add value or make an investment better. It merely magnifies the gains and losses. Volatility combined with leverage equals dynamite. The temptation is clear: leverage is a way to let you bet more than your capital, and it can turn an inadequate 6% return into a handsome 10% on your capital.

EQ: But when it goes wrong, the consequences seem catastrophic, disproportionate even to the original mistake. You’ve used a very vivid analogy to illustrate this downside risk.

HM: That’s right. Levered portfolios face a downside risk to which there isn’t a corresponding upside: the risk of ruin. We must "never forget the six-foot-tall person who drowned crossing the stream that was five feet deep on average”. To survive, you have to get through the low points, and the more leverage you carry, the less likely you are to do so. The presence of debt is precisely what creates the possibility of default, foreclosure, and bankruptcy.

EQ: We see this pattern repeated across crises, from Long-Term Capital Management to recent credit crunches. Why does the market continue to use it excessively?

HM: Leverage pushes routine risks into something capable of producing ruin. When risk aversion is at cyclical lows, people will invest anyway, even if the reward for taking incremental risk is skimpy. Investors often use leverage to try to wring acceptable results from low-return investments. The fundamental risk is that highly leveraged positions are subject to margin calls or can’t bar the door against capital withdrawals, which can lead to a downward spiral of forced selling.

EQ: So, when is the right time to use leverage, if ever?

HM: Leverage should only be used on the basis of demonstrably cautious assumptions. We believe it can be wise to use leverage to take advantage of high offered returns and excessive risk premiums, but it’s unwise to use it to try to turn low offered returns into high ones. The riskier the underlying assets, the less leverage should be used to buy them. Conservative assumptions on leverage will keep you from maximizing gains but possibly save your financial life in bad times.

The Edward Quince Takeaway

Treat leverage as a tool for magnification, not a silver bullet for guaranteed returns. Understand that increased debt narrows the range of outcomes you can endure. Prioritize the security of your capital—and your survival—by maintaining sufficient prudence and adhering to a Margin of Safety, especially when combined with volatile assets.

Edward Quince's Wisdom Bites: The Marks Series - Risk Control and the Road to Riches

Edward Quince (EQ): Howard, your emphasis on risk control is a cornerstone of your investment philosophy. We frequently highlight Morgan Housel’s insight that "survival is the only road to riches". How critical is it for investors to prioritize protection over maximizing returns?

Howard Marks (HM): Survival is indeed the only road to riches. You must strive to maximize return only if losses would not threaten your survival. We believe firmly that “if we avoid the losers, the winners will take care of themselves”. We aim for a high batting average, not home runs. Most of the investing careers that produce the best records are notable at least as much for the absence of losses and losing years as they are for spectacular gains.

EQ: That sounds like a defensive approach, focused on avoiding mistakes. How do we define that necessary defense?

HM: Investing defensively requires prioritizing the avoidance of losses. The key concept here is the Margin of Safety. Margin of safety means you shouldn’t pay prices so high that they presuppose things going right. Instead, prices should be so low that you can profit—or at least avoid loss—even if things go wrong. This buffer ensures you survive the low points.

EQ: But when markets are soaring, focusing on risk control can feel like a penalty. Investors worry about "opportunity cost"—missing out on gains.

HM: This is the core tension. We constantly deal with two main risks: the risk of losing money and the risk of missing opportunity. Investors should strive to balance both. However, if you opt for defense, you should get higher lows but also lower highs. We tell people that in good times, it’s good enough to be average, because we set up our portfolios to outperform in bad times. When others are euphoric, that puts us in danger. It is by being willing to cede much of the return distribution lying between “solid” and “maximum” that we prioritize survival. You can completely avoid one risk or the other, or you can compromise, but you can’t eliminate both.

EQ: In short, this philosophy requires tremendous fortitude and a willingness to look "dowdy" during bull markets.

HM: Indeed. You must cultivate humility, acknowledge uncertainty, and make prudent decisions. Investing scared will prevent hubris and increase the chances that your portfolio is prepared for things going wrong. If nothing goes wrong, the winners will take care of themselves. You never want to be caught "swimming without a bathing suit" when the tide goes out.

The Edward Quince Takeaway

Prioritize survival above all else, remembering that the absence of losses contributes more to long-term success than spectacular gains. Build your strategy around a sufficient Margin of Safety—the flexibility, prudence, and liquidity needed to navigate the inevitable low points without risking permanent loss of capital.

 

Edward Quince's Wisdom Bites: The Marks Series - The Futility of Macro Forecasting and the Value of "I Don't Know"

Edward Quince (EQ): Howard, one of the prevailing themes on this blog is the inherent uncertainty in financial markets, often summarized by the difficult answer, "I don't know". You've written extensively about the value—or lack thereof—in forecasting the future. Why is macro forecasting an area you advise investors to largely ignore?

Howard Marks (HM): Macro predictions are unlikely to give you an edge. There are two main problems. First, we don’t know what’s going to happen. The world is too complex, too erratic, and too full of surprises to make spot forecasts of anything of significance. Second, even if a forecast turns out to be correct, we don't know how the markets will react to what actually does happen. Forecasting is uncertain, so it's safer not to try to time markets based on predictions.

EQ: You mention that in efficient markets, correct forecasts are potentially very profitable, but also hard to make consistently. Is the consensus view of economists any better?

HM: The consensus view is usually an extrapolation of the current condition and is already embedded in the price of an asset. Most forecasts tend to cluster around historic norms and call for only small changes, underestimating the potential for radical change. If you are merely forecasting the most likely outcome, you are highly unlikely to hang your spreadsheet on predicting a discontinuity. Furthermore, most forecasters have average ability, and we rarely see their track records.

EQ: You advocate for the "I don't know" school of investing. What does this intellectual humility require of an investor in terms of action?

HM: The "I don't know" investor must face up to the uncertainty that surrounds the macro future. Instead of trying to divine the next economic move, we should devote ourselves to specialized research in market niches that others find uninteresting or overly complicated. We will continue to try to "know the knowable". This means focusing on micro factors relating to companies, assets, and securities where it is possible to obtain a knowledge advantage through the expenditure of time and effort. By concentrating on avoiding pitfalls and investing based on in-depth analysis, conservatively estimated tangible values, and modest purchase prices, we can proceed without relying on macro-forecasts.

EQ: So, the valuable forecasts are those that call for radical change, but those are rarely right. In lieu of perfect foresight, how do we protect ourselves?

HM: We must acknowledge the limits of our knowledge. This humility should drive us to employ the Margin of Safety. The margin of safety is, in essence, rendering unnecessary an accurate forecast of the future.

The Edward Quince Takeaway

Embrace intellectual humility: recognize that "Nobody knows" the macro future, and those who claim certainty should be met with skepticism. Focus your efforts on knowing the knowable—deep, bottom-up research in niche areas where superior insight is achievable—and rely on a robust Margin of Safety rather than unreliable predictions.

Edward Quince's Wisdom Bites: The Marks Series - The Market Pendulum: Mastering Cycles and Extremes

Edward Quince (EQ): Howard, welcome. My blog often laments the financial world's short memory. When you look across history, what principle about the markets seems most dependable, and yet most consistently ignored by investors?

Howard Marks (HM): It is simply the inevitability of cycles. The mood swings of the securities markets consistently resemble the movement of a pendulum. While the midpoint of the arc best describes the location of the pendulum "on average," it spends very little time there. Instead, it is almost always swinging toward or away from the extremes of its arc, moving between euphoria and depression, or between celebrating positives and obsessing over negatives.

EQ: That sounds intuitive, yet we constantly see people caught off guard. If cycles are so reliable, why do investors repeatedly fail to heed them?

HM: The error stems from an excessive proclivity to believe the positives—and disregard the negatives—prompted by the desire to make money. This leads to the most dangerous phrase in investing: “This time is different”. This phrase is a recurring bull-market cliché that always bears scrutiny. The greatest mistakes regarding the economic cycle result from a willingness to believe that it will not recur. Although history does not repeat itself exactly, it "does rhyme" because of the tendency of investors to forget lessons and repeat behavior.

EQ: So, the extremes of investor psychology are really the primary driver?

HM: Absolutely. Patterns in investor behavior rhyme from cycle to cycle, creating profound opportunities at the extremes. When attitudes of euphoria are widespread, prices assume the best and incorporate no fear, which is a formula for disaster. Conversely, when others are frightened and pull back, their behavior makes bargains plentiful, signaling an opportunity to be aggressive. Importantly, the movement toward the extreme itself supplies the energy for the swing back toward the midpoint.

EQ: Given that we cannot predict when the pendulum will reverse, how should a thoughtful investor approach market conditions informed by cyclical extremes?

HM: While we may never know where we’re going, we’d better have a good idea where we are. The circumstances must inform our behavior. Emotion must be resisted. I find myself using one quote more often than any other: "The less prudence with which others conduct their affairs, the greater the prudence with which we should conduct our own affairs". This means leaning away from the direction chosen by most others—selling when they’re euphoric, and buying when they’re afraid.

The Edward Quince Takeaway

Recognize that markets are rarely in the “happy medium,” but rather constantly oscillating between emotional extremes. Your goal is not to predict the next swing, but to be acutely aware of investor psychology—the more complacent and euphoric the crowd is, the more caution and prudence you must exhibit in your own actions.

Edward Quince's Wisdom Bites: Nomads and Motorcycles: The Hard Work of Attitude and the Value of Struggle

If the Nomad letters teach us anything, it’s that success is never a smooth or guaranteed ascent. The adventure continues, the trials never end, and unhappiness and misfortune are bound to occur as long as we live.

The Nomad founders were open and honest about their mistakes. They understood that knowing how to think (philosophy, psychology) was just as vital as any technical method. When reflecting on their approach, they concluded that the greatest challenge wasn’t identifying opportunities or calculating valuations—it was “having the right attitudes.”

Attitude is the ultimate margin of safety—because no model or forecast can protect you from yourself.

But this attitude isn't about naive blind optimism. It’s the quiet strength that endures uncertainty and learns from it. As Robert Pirsig reminds us, problems aren’t solved by abandoning rationality, but by expanding it. Growth occurs through contact with reality, by working, adjusting and learning "on the job" in the arena of life. The Nomad partners, like the protagonist on the motorcycle, learned to absorb the jolts and imperfections of the road rather than curse them.

We often view setbacks as external failures—a bad boss, a rogue market, unfair circumstances. But both Nomad and Pirsag suggest a harder truth: progress demands internal confrontation. The greatest damage often comes not from volatility itself,  but from our "inability to perform probability-based thinking", to hold composure when uncertainty reigns.

The Financial Takeaway:

The deepest form of growth is forged through struggle. True excellence emerges when talent is tempered by humility and discipline—when effort becomes craft.

Nomad’s story reminds us that enduring success is not about the absence of pain, but the persistence of purpose. The “game of life,” as Pirsig wrote, “is the game of everlasting learning.”

Stop viewing work as a mere transaction for money; see it instead as the pursuit of meaning. Maintain the right attitude. Accept that “everybody struggles.” And when the road jolts you—because it will—remember that mistakes don’t define you. They refine you. Choose growth, and keep going.

Edward Quince's Wisdom Bites: Nomads and Motorcycles: Imitation, Conformity, and the True Path

The pursuit of financial success is often sold as a hunt for a secret formula, leading many down the path of mimicry. Yet, this path leads straight to mediocrity.

The Nomad partners knew this inherently, operating under the principle that "Good investing is a minority sport." To earn superior returns, they had to do things differently from the crowd.. They had to consciously combat psychological traps like the wish to seem prudent in the eyes of others. Nomad's commitment to independent thought and long-term focus was often contrary to market sentiment.

Robert Pirsig saw the same danger in education.  He described "Imitation" as a profound evil that must be broken before genuine learning can begin. He observed students were conditioned to work solely for the grade rather than for true knowledge. In the financial world, the same pattern repeats: investors and analysts learn to "survive mainly by pleasing others"—by echoing what the bosses, the clients, or the consensus expects to hear, and saying it with skill.

But if you want enduring success, you must resist the universe's pull to be "typical". You must reject the notion that "Doing what everyone else thinks you should is a sure path to the same results as everyone else". The moment you publicly disclose your conclusions, you risk "pounding into your own head"—forming mental chains of consistency that prevent adaptation.

The Financial Takeaway:

Envy is ignorance, and imitation is suicide. Markets reward independent minds, not echo chambers. The goal is to cultivate genuine intellectual independence, not conformity. Ignore the applause and the panic.  The courage to think and act, alone.  As Nomad embraced concentration of bets and long holding periods despite peer pressure, you must have the courage to stand apart. Focus on what you believe, what you have studied, and act on that conviction.

True originality isn’t rebellion for its own sake; it is the byproduct of sincerity. Remember: "Your behavior matters more than your forecast".